I have been asked several times in the past few weeks whether California mutual water companies are authorized to transfer water to non-shareholders at a profit. It appears some activists have begun arguing that California Public Utilities Code § 2705 prohibits mutual water companies from making money on water transfers. This challenge is part of a broader opposition to water transfers in the state, based on a public policy concern that some individuals are profiting from selling water, which is a public resource. As I explain below, § 2705 does not prohibit mutual water companies from transferring water to non-shareholders at a profit, and California law generally supports the right of any water rights holder, mutual or otherwise, to sell water for financial remuneration.

As described in my earlier posts here and here, mutual water companies are corporate organizations that have a primary purpose of delivering water to their shareholders. Private water companies have been formed throughout the history of the state, but many were formed in the early years of the 20th Century to meet the water demands of growing urban and agricultural areas. In 1911, the California Legislature responded by forming the Railroad Commission (now the California Public Utilities Commission) with jurisdiction over the terms of service and rates charged by private water companies. A distinction was recognized early on between private water companies that are owned by developers or investors for the purpose of earning a return on investment, and mutual water companies that are owned and governed by water users themselves. Section 2705 contains the codification of the legal distinction between the two types of private water company. Any interpretation of § 2705 must take into account the purpose and function of the provision, which is to protect water end users (or “customers”) from the monopoly power enjoyed by retail water suppliers. Customers of an investor-owned utility are entitled to regulation by the CPUC for their protection, while it is assumed that customers of a mutual water company do not need such protection, since they control the company through shareholder voting. This is the same reason that government-owned utilities are not regulated by the CPUC, since they are controlled by a customer-elected board or city council.

Consistent with the public policies described above, § 2705 states that “[a]ny corporation or association that is organized for the purposes of delivering water to its stockholders and members at cost … is not a public utility, and is not subject to the jurisdiction, control or regulation of the commission.” The term “at cost” is defined to mean “without profit.” Section 2705 goes on to provide that, “[h]owever, a mutual water company may perform the following acts without becoming a public utility and becoming subject to the jurisdiction, control or regulation of the commission: … (c) May transfer water or water rights to, or exchange water or water rights with, another entity pursuant to state or federal law, or both.”

It is clear from the language of § 2705 that while the central purpose of the statute is to describe the general circumstances under which a mutual water company is exempt from CPUC regulation, there are also special actions that a mutual may undertake without becoming subject to regulation. One of those is the implementation of water transfers or exchanges, in subsection (c). I have heard the argument that the phrase “at cost” in the main text of § 2705 should apply to each of the five subsections (a) through (e), but that argument fails as a matter of statutory interpretation because three of the subsections – (a), (b) and (d) – repeat the phrase “at cost,” which would be redundant if that concept applied to all the subsections based on the main text. Rules of statutory interpretation require that all language of the provision be given effect to the extent possible, and for § 2705 that means not applying the phrase “at cost” to those subsections – (c) and (e) – that do not expressly include it. It is best to conclude that the Legislature intended to apply the “at cost” limitation only to those subsections in which the language appears.

This interpretation of § 2705 is consistent with the historical acceptance by the courts of water transfers at the wholesale level that do not trigger CPUC regulation. Examples of such cases include Garrison v. North Pasadena Land & Water Company, 163 Cal. 235 (1912) (sale from a mutual to an investor-owned water utility), Marin Water & Power Company v. Town of Sausalito, 168 Cal. 587 (1914), and City of San Diego v. La Mesa, Lemon Grove and Spring Valley Irrigation District, 109 Cal.App. 280 (1930). Those courts concluded that bulk water transfers do not fall within the jurisdiction of the CPUC because the private water companies at issue did not offer water for sale to the public, but only sold water to other entities that could be assumed to have the commercial sophistication to represent their own interests. A buyer in a water transfer is not like a utility customer who is subject to the utility’s monopoly power; such a buyer may seek a water transfer with a number of potential sellers and may negotiate the terms and price of the transaction. Those cases are consistent with the fact that in addition to satisfying the requirements of § 2705, a private water company is regulated by the CPUC only if the company has dedicated its assets, including water supplies, to public use. That common law test has been in place for a century now, and has been reviewed and accepted by the California Legislature and courts as high as the United States Supreme Court.

California law supports the ability of water rights holders to engage in water transfers. The California Constitution, Article X, § 2 mandates the greatest use of water resources of the state, and effective and efficient reallocation between water users is a necessary component of achieving that fundamental state policy. The California Water Code expressly authorizes water transfers in a number of ways, including but not limited to:

None of these provisions states or implies that mutual water companies are not able to engage in water transfers or that such transfers should be conducted without financial compensation to the seller. The essence of a water transfer is a voluntary transaction between a willing seller and buyer, and almost always the consideration for a seller to enter into such a transaction is monetary. Thus, California law generally supports the right of any water rights holder, including a mutual water company, to sell water for financial remuneration.

I think what this argument shows is that opponents of market mechanisms and private sector participation in water are increasingly looking for legal grounds by which to challenge transactions they would disfavor. Every water rights holder, whether it is a mutual water company, private investor or even a public agency, should be aware that opponents are likely to challenge any attempted water transfer, but it should also be aware that the law and good public policy are on its side.

6 comments

  1. In California, is the developer required to deed the water rights to the mutual water company that he developed? The mutual water company was developed after Jan. 1, 1998.

    1. A developer is responsible for ensuring that the development has sufficient water supplies for a number of years in the future (for large developments, that means at least 20 years). Those water supplies do not necessarily have to be the result of a deed, however. Many water companies do not possess water rights but rather purchase water from another entity through a lease or wholesale arrangement. Such arrangements are acceptable as long as they provide adequate assurances that water will in fact be available to the development. A deed would be one way to accomplish that, but it’s not the only way. I hope that helps.

      Wes

  2. Thanks for the informative article. I wonder how you would reconcile Corporations Code section 14300 with the above? That section seems to prohibit private water transfers by mutuals unless an emergency exists.

    1. The purpose of Corporations Code section 14300 is to require mutual water companies that provide domestic water to make their shares appurtenant to specific parcels of land, so that a homeowner does not end up purchasing a house without any water supplies. Section 14300 also requires domestic mutual water companies to deliver water to all shareholders, and to sell water only to shareholders, except that a mutual may sell water to the state, a public agency or another mutual, or can sell water to any person during an emergency.

      There are two features of that last restriction that bear discussion. First, the rule only applies to domestic mutual water companies (or agricultural mutual that opt in), and since water transfers are generally only done by agricultural mutuals, it would not affect such transfers. Second, section 14300 is really only a codification of the common law rules, and not a very well written one. (You could say the same of almost every statute passed by the Legislature concerning mutuals; they have a poor track record on this subject.) For example, Public Utilities Code section 2705 has a different list of non-shareholder transactions that are allowed, and that list includes water transfers. There are other statutes that refer to mutual water companies implementing water transfers as well. So I think we have to interpret section 14300 according to its purpose, which is to require that a domestic mutual make its shares appurtenant to certain lands and deliver water to all owners of those shares. To read that restrictive language in section 14300 more broadly would result in contradicting other statutory provisions and the common law rules it was intended to codify.

      I have argued this section in front of the California Public Utilities Commission in the past and prevailed on that issue, so despite the poor drafting of these statutes, that seems to be the best interpretation.

  3. Hi Wes,
    One of the County roads was hit by the storms of 2016 which included one of our pipelines. Anyway, the construction crew working for the County on the temporary bridge and permanent fix has been getting water from our mutual water co. We have not charged them anything but are keeping track of the amount of water used. ~3,000 cubic feet thus far. I am looking at the possibility of putting together a company policy to present to the board regarding water transfers for these types of situations so we can charge at cost. What kind of language would you recommend? We are not PUC regulated.

    1. California Corporations Code § 14300 authorizes a mutual water company to deliver water to the state, a public agency, a school district or another mutual water company, without those deliverees being members of the company. A mutual water company will have that authority whether or not it is stated in the company’s articles of incorporation or bylaws, as the authority created by the Corporations Code is sufficient. A company is not limited to charging the deliveree the marginal cost of providing water, but may charge such deliverees for water at the same rate as the company charges its members. If your normal rate equals or exceeds the marginal cost to deliver water to the agency, that is what I would recommend. If the marginal cost of delivering water to the agency is higher than your normal rate, you should charge at least the marginal cost, so that the company and its members are not financially harmed by the sale.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s