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Dodging Bullets: AB 54 - New Requirements for Mutual Water Companies

By James Ciampa
Lagerlof, Senecal, Gosney & Kruse, LLP

In recent years, mutual water companies have been the target of several attempts by California legislators to adopt new laws to further regulate those companies. Through the efforts of various coalitions of mutual water companies and their advisors, those legislative efforts did not succeed. However, in late 2010, a new bill, Assembly Bill 54, was introduced that was aimed at imposing a variety of new requirements on mutual water companies. Ultimately, that bill, as amended from its original form, was passed by the State Legislature and signed into law by Governor Brown. AB 54 takes effect on January 1, 2012. This article will review the background of AB 54, discuss the more onerous provisions of the bill's original versions, summarize the negotiation process and then discuss the final version of the bill that became law.

BACKGROUND

AB 54 was authored by Assembly Member Jose Solorio, a former city councilman from Santa Ana. The events that gave rise to AB 54 concern a small mutual water company in Santa Ana with approximately 80 service connections. That company experienced problems with nitrates in a well and did not have the financial ability to solve those water quality problems. Eventually, the City of Santa Ana had to take over water service to that company’s customers. In doing so, the City was astounded at the company's lack of organization and identified numerous problems with the company's facilities and operations. That situation led to Assembly Member Solorio's interest in mutual water companies and his desire to author legislation to address the problems he saw through that situation; thus, leading to AB 54, which he introduced on December 6, 2010.

Once AB 54 was introduced, another public agency became interested in the bill because it had experiences similar to Santa Ana in having to "rescue" mutual water companies and then expend monies to upgrade the companies' infrastructure. In addition, local agency formation commissions¹ also became interested in AB 54, as numerous counties' LAFCOs expressed frustration in obtaining information from mutual water companies that they needed to prepare the municipal service reviews required by law. Cal-LAFCO, the statewide association of LAFCO's, thus was also proponent of AB 54.AB 54 – INITIAL VERSIONS

In its first several versions, AB 54 included several provisions that would be problematic to mutual water companies. Those provisions included the following, with the likely problems stated in brackets and italics following the provision:

1Require that each mutual water company provide a map of its service area to the California Secretary of State and the applicable county LAFCO;
Require mutual water companies to provide unlimited information to the applicable county LAFCO and other county departments [no limit was set forth regarding the nature of the information that may be requested, including possibly shareholder names and addresses and companies’ private financial information, which could result in a well run company with financial reserves being targeted to be taken over by a public agency or private utility];
Require mutual water companies to comply with Governmental Accounting Standards Board requirements and to actually fund depreciation [this requirement, while good in concept, is not financially feasible for most, if not all, mutual water companies and would likely result in significant rate increases to shareholders/customers];
Require all mutual water company directors to take a four hour training course to be offered by a public water agency [the training requirement was not the problem on this issue; rather, it would be difficult to find public water agencies that would want to be involved in putting on such training for mutual water companies; also four hours seemed to be an excessive amount of time];
Require each mutual water company to submit a certification by July 1 of each year to the California Department of Public Health setting forth the amount of time that its certified operator spent operating the company’s water system in the prior year. The certification, which would have to be executed under penalty of perjury, would also be required to include a statement as to the company’s financial reserves and backup equipment in case its system fails. The company would also be required to attach a certification by a registered engineer that the company’s water system is in good working order [this provision singles out mutual water companies from all other entities operating public water systems in California; i.e., no other types of entities are required to make those certifications or provide that information];
Authorize LAFCO to review and approve the annexation of territory served by a mutual water company into the jurisdiction of a city, a public utility, or a special district that operates a public water system, with the consent of the respective public agency or public utility and mutual water company [this provision raised a concern that LAFCO was attempting to broaden its jurisdiction to include mutual water companies under its reach and that this provision would make it easier for a public agency to takeover a mutual water company];
Prohibit a mutual water company from expanding its boundaries without LAFCO approval [see the prior comment];
Authorize LAFCO in conducting a municipal service review to include a review of whether any available drinking water sources comply safe drinking water standards [this provision presented two problems: (i) LAFCO again being given power to possibly regulate non-public agency mutual water companies; and (ii) LAFCO being given power over water quality issues, which are already regulated by the State Department of Public Health];
Impose a fine on individual directors if they “take no action” to remedy a Safe Drinking Water Act violation within one year of the violation [as explained to the Assembly Member Solorio’s staff, such a potential for personal liability would result in many mutual water company directors leaving office and would make it difficult to recruit new qualified directors];
Require all mutual water company work to comply with California Water Works Standards; and
Require that mutual water company projects comply with the prevailing wage requirements [this requirement runs contrary to AB 54’s stated intent to attempt to financially help troubled mutual water companies. Instead, the prevailing wage requirement would result in the increase of mutual water company construction costs (estimated at approximately a thirty percent increase), and the prevailing wage requirement really has no impact on the quality of a contractor, just that they must pay their workers more].

NEGOTIATION PROCESS

Shortly after they became aware of AB 54, CRWA, the Association of California Water Agencies, the Central Basin Water Association, some individual lobbyists engaged by various mutual water companies, some companies’ attorneys and management from several mutual water companies convened to discuss how to best proceed in dealing with the bill. It was determined to first attempt to negotiate amendments to the bill to amend or delete the more onerous provisions, because it was unlikely from a political standpoint that the bill could be killed in whole. In particular, the prevailing wage requirement, the breadth of information that a LAFCO could request, the requirement to fund depreciation, the potential for LAFCO jurisdiction over mutual water companies and the potential for individual director liability were established as provisions that needed to be amended or removed.

Several telephonic negotiation sessions took place in the spring and early summer of 2011 with Assembly Member Solorio’s staff. Fortunately, Assembly Member Solorio and Cal-LAFCO were open to accepting reasonable revisions to the bill. After several sessions, the prevailing wage requirement, the requirement for LAFCO approval of any boundary expansions and the potential for individual director liability were completely removed from the bill, and the requirement to fund depreciation was removed and replaced with a less onerous reserve requirement provision. Also, amendments were made to address concerns about the information a LAFCO may request, to clarify the bill was not expanding LAFCO’s jurisdiction, to better address company financial reserve requirements and to ease the burden regarding the newly required director training. AB 54’s final provisions are discussed below.

AB 54 – THE FINAL VERSION

AB 54 was amended ten times between March and August of 2011 to address the concerns the negotiating coalition raised. The bill passed the Legislature on September 8, 2011 and was signed into law on October 7, 2011, to become effective on January 1, 2012. AB 54’s final version includes the following, with comments again stated in brackets and italics:

Service Area Map. Requires, no later than December 31, 2012, each mutual water company operating as a public water system to submit to the applicable LAFCO a map depicting the approximate boundaries of the property the company serves [the final version deleted the possible requirement for a detailed map and for the map to be provided to the Secretary of State].
LAFCO Information Requests. States that if the applicable LAFCO requests information, in connection with the preparation of a municipal service review or sphere of influence update, from a mutual water company, the company must, within 45 days of the request, provide all reasonably available information and explain, in writing, why any requested information is not reasonably available. [concerns about the breadth of information that may be requested were addressed by limiting a LAFCO to being able to request information only in connection with its required proceedings and by adding the following limitations to the statute: the company is not required to disclose any information pertaining to the names, addresses, or water usage of any shareholder; the company is not required to undertake any study or investigation to develop any information to respond to LAFCO’s request; and the company may comply with the requirement by submitting to LAFCO the same information that its submits to the Department of Public Health].
Reserve Requirement. Requires a mutual water company that operates a public water system to maintain a financial reserve fund for repairs and replacements to its water production, transmission, and distribution facilities at a level sufficient for continuous operation of facilities in compliance with the federal and state Safe Drinking Water Acts [while recognizing that reserve funds are prudent, this requirement should not result in a financial burden that would require mutual water companies and their shareholders to bear significant rate increases to specifically fund system depreciation].
Director Training. Requires each board member of a mutual water company operated as a public water system to, within six months of taking office or by December 31, 2012 if the director is in office as of December 31, 2011, complete a two-hour course offered by a qualified trainer regarding the duties of board members of a mutual water company, duties of a corporate director to avoid financial conflicts of interest in contracts, the duties of public water systems to provide clean drinking water that complies with the federal and state Safe Drinking Water Acts, and regarding the long-term management of a public water system [the course length was reduced from 4 hours to 2 hours, and the “qualified trainer” can be a company’s attorney, training provided by the CRWA, or an otherwise accredited trainer; the Association is working on developing the required training course and will be offering that training in the spring of 2012].
Liability for Fines, etc. Requires a mutual water company to be liable for the payment of any fines, penalties, expenses, and other amounts that may be imposed for California Safe Drinking Water Act violations. Also, the law authorizes a mutual water company to levy an assessment in order to pay those fines, penalties, expenses, and other amounts so imposed and specifies that if those exactions exceed 5% of the annual budget of the mutual water company, then the assessment must be imposed [deleted the potential for individual director liability; as enacted, the provision really does not change existing law – previously, if a company received such a fine or penalty, it was required to pay that amount. Thus, the only really change is the requirement to impose an assessment to raise monies to pay the fine or penalty].
Construction Standards. Requires all improvements to public water systems operated by a mutual water company to be designed and constructed to comply with the applicable California Water Works standards.
Annexations. Gives LAFCO the power to review and approve or disapprove, at the LAFCO's discretion, the annexation of territory served by a mutual water company into the jurisdiction of a city, a public utility, or a special district that operates a public water system, with the consent of the respective public agency or public utility and mutual water company; provided, however, that any such annexation that is approved is subject to the state and federal constitutional prohibitions against the taking of private property without the payment of just compensation [by adding that last clause, the statute essentially results in no change from existing law. Prior to approval of AB 54, if a city wanted to takeover a mutual water company without the company’s consent, it could do so through an eminent domain process, it just needed to pay just compensation. That final clause ensures that requirement for payment of just compensation still applies].
Municipal Service Review – SDWA Compliance. Provides that in conducting a municipal service review, the LAFCO may include a review of whether the agencies under review, including any public water system, are in compliance with the Safe Drinking Water Act. A public water system may satisfy any request for information as to compliance with the Safe Drinking Water Act by the submission of the consumer confidence or water quality report prepared by the public water system.
Grant Funding - Letter of No Prejudice. Authorizes the Department of Public Health to issue a "letter of no prejudice" that allows an applicant for Safe Drinking Water Revolving Fund money to start clean drinking water project construction before final approval of funding without prejudicing the Department's final decision on funding.

CONCLUSION

While AB 54 imposes some new requirements on mutual water companies, the amendments that were incorporated into the law removed or mitigated the bill’s most troubling provisions. As time progresses, mutual water companies need to be watchful for any legislation that may adversely impact their operations.

1. Each of California’s 58 counties has a local agency formation commission, or LAFCO, to oversee the orderly formation and development of local agencies within the applicable county. LAFCOs are required every five years to conduct municipal service reviews to ensure that municipal services are being provided in an efficient manner.