To “SIB” or Not to “SIB” – That Is the Question on How to Timely Fund Necessary Water and Wastewater Infrastructure Improvements

Recently, the U.S. Environmental Protection Survey showed that $271 billion is needed for the Nation’s Wastewater Infrastructure, including for investor-owned utilities regulated by state public utility commissions.[1]  The U.S. EPA is currently conducting a survey for water infrastructure[2] – but water service professionals have been sounding the alarm for years about an aging utility infrastructure that jeopardizes water and wastewater providers’ ability to provide safe, adequate, and reliable service.  There is little doubt that significant water and wastewater infrastructure used for providing service to customers needs to be replaced. The question remains how to fund needed infrastructure in a way that results in only gradual impacts on water and wastewater rates for customers.

In Arizona, water and wastewater utilities worked with Arizona Corporation Commission Staff and developed an adjustor mechanism to replace aging and leaking infrastructure. Named the System Improvements Benefits or “SIB” mechanism, this mechanism would allow utilities to replace aging infrastructure and avoid the need for large rate increases to customers, by having in place a gradual annual rate adjustment on customer bills through a separate surcharge on customer bills.  This would also allow water and wastewater utilities the ability to timely recover costs to fund certain improvements without the need to undertake a lengthy and expensive general rate case.  Commission Staff also built in numerous protections to the SIB – including pre-approval of eligible projects, specific eligibility criteria, limitations on recovery of costs (such as with depreciation expense), an efficiency credit, annual true-up of the SIB surcharge, and Commission approval of the SIB surcharge before implementation and adjustments.  The Commission approved the SIB for several large water and wastewater companies in Arizona.

The Residential Utility Consumer Office or “RUCO” challenged the legality of the SIB, alleging that it violated the “fair value clause” in the Arizona Constitution – at Article XV, Section 14. In Residential Util. Consumer Office v. Arizona Corp. Comm’n, 1 CA-CC 13-0002, 2015 WL 4911765 (Ariz. Ct. App. Aug. 18, 2015) the Arizona Court of Appeals, Division 1, sided with RUCO in declaring that the SIB violates the Commission’s obligation to find fair value under the Constitution, invalidating the SIB that the Commission approved for the Arizona Water Company’s Eastern Group.  The Court of Appeals found that the SIB mechanism “lacks essential attributes of an automatic adjustor clause and does not fall within that exception to the constitutional fair value determination requirement.”  See ¶ 26. Noting that “rate adjustors outside of a rate case” are the exception and not the rule, the Court of Appeals found that the SIB allows for recovery of capital expenditures and not “narrowly defined operating expenses that naturally fluctuate.”  See ¶¶ 23-26. The Court of Appeals reasoned that because the SIB does not fall within a permissible exception, and because the Commission would not conduct a full fair value determination when it evaluates requests regarding the SIB surcharge, it vacated the Commission’s approval and adoption of the SIB.  Also concluding that the SIB could not qualify as an “interim rate,” the Court of Appeals recognized that the SIB may represent “prudent public policy”; but that cannot justify circumventing the fair value requirement or “circumvent the constitutional mandate by judicial fiat.” See ¶¶ 48-49.

The case has far-reaching implications for several Arizona public service corporations, many of whom had SIBs approved for at least some of their water and wastewater divisions.  Arizona electric and gas utilities that have adjustor mechanisms addressing issues from renewable energy to energy and gas conservation could also be affected.  Several of these utilities filed briefs supporting the Arizona Supreme Court granting review and affirming the Commission’s order approving the SIB.  Their collective wishes were answered when the Supreme Court granted review, and scheduled additional briefing by February 29 and oral argument on March 22.  Until then, the question of how to timely fund critical infrastructure replacements for water and wastewater utilities will remain obfuscated with Hamlet-like uncertainty.

[1] http://yosemite.epa.gov/opa/admpress.nsf/bd4379a92ceceeac8525735900400c27/e418f2bd321cad9f85257f390052f5be!OpenDocument (last checked on February 17, 2016).

[2] See https://dwneeds.epa.gov/login.aspx?ReturnUrl=%2f (last checked on February 17, 2016).