On October 11, 2018, the Commonwealth Court of Pennsylvania (“Court”) vacated the Pennsylvania Public Utility Commission (“PUC”) Order approving the acquisition of the wastewater system assets of New Garden Township and New Garden Sewer Authority (collectively “New Garden”) by Aqua Pennsylvania Wastewater, Inc. (“Aqua”).[1]  Aqua’s Application sought PUC approval of the acquisition, a Certificate of Public Convenience to furnish wastewater service to customers in and around the service territory of New Garden, and, approval of a rate base predicated on the acquisition price, rate commitments and transaction costs.[2]

The Court remanded the case to the PUC to ensure all affected ratepayers (i.e., New Garden customers, as well as all Aqua customers) receive proper notice of the proposed acquisition, and to adduce additional evidence as to the full impact on rates for all Aqua customers of the Acquisition, and the other rate restrictions set forth in the Asset Purchase Agreement (“APA”).[3]  (i.e., the APA contains a two-year “rate freeze” in which New Garden customers would experience no rate increase, as well as a limitation that New Garden customers would have a ten-year cap limiting rate increases to no more than a compounded 4% per year, in addition to an Aqua commitment to fund $2.5M of capital improvements in the New Garden service territory).[4]

By way of background, in 2016, Pennsylvania Governor Tom Wolf signed Act 12 of 2016 (Act 12) into law, establishing a methodology for valuing water and wastewater systems owned by Municipal Authorities or Municipal Corporations to be acquired by a Public Utility.  Act 12 is codified in Chapter 13 of the Public Utility Code, 66 Pa. C. S. § 1329 et al.[5]  As the Court noted in the instant case, “[i]n sum, Section 1329 allows a utility to cover the full costs of its investment in purchasing the new system from ratepayers.”[6]

This law furthers the 2006 Pennsylvania Public Utility Commission Policy Statement (set forth at 52 Pa. Code §69.721) regarding water and wastewater system acquisitions where:

…The Commission believes that further consolidation of water and wastewater systems within this Commonwealth may, with appropriate management, result in greater environmental and economic benefits to customers. The regionalization of water and wastewater systems through mergers and acquisitions will allow the water industry to institute better management practices and achieve greater economies of scale….[7]

Under the terms of the APA intended to satisfy the requirements of Act 12, Aqua would pay New Garden $29.5M for the assets, which is almost 3x the systems’ fully depreciated original cost of $10.9M.[8]  Yet, the average of two Fair Market Value (“FMV”) appraisals required by Section 1329 was $32.1M.[9]  As Section 1329 requires use of the lesser of the purchase price or the average of the FMV appraisals, Aqua relied on the $29.5 million valuation.[10]

In hearings before a PUC Administrative Law Judge (“ALJ”), Aqua entered substantial evidence that acquisition will have no adverse effects on service provided to existing customers.  The Court noted “Aqua, however, provided no evidence regarding the effect on rates by increases on the rate base or the rate impact of the rate freeze provision or Compound Annual Growth Rate (“CAGR”) limitation to New Garden on existing ratepayers.”[11]

In addition, the Office of the Consumer Advocate (“OCA”) and the PUC’s Bureau of Investigation and Enforcement (“I&E”) both filed protests at this Docket and vigorously challenged Aqua’s Application and claims as to the rate impact on all Aqua customers.[12]  OCA challenged the $29.5M prospective rate base impact on all Aqua customers, as well as the additional embedded impact of a two-year rate freeze and ten-year rate cap for New Garden customers.[13]  In short, OCA argued the cost of acquiring New Garden to all Aqua customers would far exceed any net benefit gleaned from addition of New Garden customers.[14]

The ALJ, while finding the $29.5M APA was reasonable, nonetheless denied the request for a Certificate of Public Convenience (“Certificate”) on the basis that Aqua failed to show “… that all affected parties, including its existing customers, will realize any affirmative public benefits…” and Aqua’s existing ratepayers will have “to bear a disproportionate share of revenue requirements in future base rate cases….”[15]

The PUC later reversed the ALJ’s Recommended Decision and approved the $29.5M ratemaking rate base and directed that a Certificate be issued to Aqua to provide service in New Garden’s former service territory.[16]  The PUC disagreed with the ALJ and found Aqua proved the acquisition would affirmatively benefit the public, and that consolidation of Pennsylvania’s water and wastewater industry would advance significant economic and environmental benefits to all citizens and end users.[17]  However, the PUC did attach conditions for approval, including the filing of a Cost of Service Study in Aqua’s next rate case that separates costs, capital and operating expenses of providing wastewater service to New Garden customers as a stand-alone rate group.[18]  The PUC perceived this cost data, provided at a future time, would adduce an overall rate impact on all Aqua customers.[19]

The Commonwealth Court, while agreeing with PUC acceptance of “aspirational” statements as evidence of acquisition public benefits, disputed the PUC plan of reliance on a prospective Cost of Service Study to assess rate impact on all customers.[20]  Specifically, Section 1102 of the Code requires a balancing test to weigh all factors, including impact on rates, to determine if a public benefits exists as a result of this transaction.[21] The Court held this PUC determination must be made in the instant Application, and not in a prospective rate case.[22]  Accordingly, the Court directed the PUC to make a full determination and disposition of all issues, most especially rate impact issues at this Docket.[23]

As such, the Court remanded this matter to the PUC for, after actual notice to all affected ratepayers, a full explication of rate impact on all Aqua customers, as well as a more detailed explanation of all corresponding affirmative net benefits.[24]

It will be interesting to observe how participation of other interested parties impacts the analysis required under the law.  In any event, the proceedings before the PUC should provide additional guidance as to what evidence will be appropriate in terms of acquisition impact on existing customers.

[1] McCloskey v. Pa. PUC, 2018 Pa. Commw. LEXIS 559 (Cmwlth, Oct. 11, 2018) (“Court Order”).

[2] Application of Aqua Pennsylvania Wastewater, Inc. pursuant to Sections 1102 and 1329 of the Public Utility Code for Approval of its Acquisition of the Wastewater System Assets of New Garden Township and the New Garden Sewer Authority, Docket No. A-2016-2580061 (Dec. 15, 2016).

[3] Court Order at *27-*33.

[4] Opinion and Order, Application of Aqua Pennsylvania Wastewater, Inc. pursuant to Sections 1102 and 1329 of the Public Utility Code for Approval of its Acquisition of the Wastewater System Assets of New Garden Township and the New Garden Sewer Authority at 16-17, 27-28, Docket No. A-2016-2580061 (June 29, 2017) (“PUC Order”).

[5] 66 Pa.C.S. § 1329.

[6] Court Order at *3.

[7] 52 Pa. Code § 69.721.

[8] Court Order at *5.

[9] Id. at n.7.

[10] 66 Pa.C.S. § 13296(c)(2).

[11] Court Order at *8.

[12] Id. at *6.

[13] Id. at *6-*10.

[14] Id. at *9-*10.

[15] Application of Aqua Pennsylvania Wastewater, Inc. pursuant to Sections 1102 and 1329 of the Public Utility Code for Approval of its Acquisition of the Wastewater System Assets of New Garden Township and the New Garden Sewer Authority, Docket No. A-2016-2580061, Recommended Decision at 43-44 (Apr. 21, 2017).

[16] PUC Order at 72-73.

[17] Id. at 67-68.

[18] Id. at 73-74.

[19] Court Order at *14-*15.

[20] Id. at *23-*27.

[21] Id. at *27.

[22] Id.

[23] Id.

[24] Id. at *25-*33.