Water Mergers: Are They Making Economic Sense?

          Mergers and acquisitions have come to the water industry. The targets are small companies—some private, some municipally owned, each a monopoly. Some are merging with each other; others are being acquired by large investor-owned companies. As infrastructure ages, environmental costs rise, and population grows, economies of scale may justify larger service territories. But as with all M&A activity in monopoly markets, these transactions display tension between the parties’ strategic objectives and the public’s long-term interests. 

 

Price prevailing over performance

          Here’s what’s happening in State X: State law lets investor-owned acquirers and municipal system owners negotiate their own prices, subject to deferential state commission review. But deference is problematic because each side has an incentive to inflate the purchase price. The municipal seller can use the extra proceeds to build soccer fields or fix pension deficits. The acquirer can put the acquisition cost into rate base; so, oddly, the more it pays the more it profits. (Try explaining that one to a neighbor uninfected by a career in utility regulation.) And the acquirer can spread its purchase cost among its multiple water subsidiaries—so small, gradual rate increases tend to go unnoticed. Assume, further, that the state regulator approves these rising acquisition prices, as long as they don’t exceed some standard borrowed from the real estate industry—a standard like “reproduction cost new”—that that has no relevance to the acquired system’s real value.

          Worsening the situation: Acquirer 1’s willingness to pay high acquisition prices is contagious. So rivalry among acquirers drives up the acquisition prices beyond the already wrong prices. The result? A race to the bottom, with municipal sellers choosing acquirers based on price instead of performance— ironically so, since the reason to encourage water mergers, we are told, is to lower cost and improve performance.

          This picture fails the public because it lacks discipline.  It lacks competitive discipline because each negotiator is a monopolist.  It lacks regulatory discipline because the cap on the purchase price—reproduction cost new—has no relation to a water system’s actual cost or value.  And the municipal seller’s priority?  Today’s proceeds rather than tomorrow’s performance.  A real trifecta—failures of competition, regulation, and politics.  How do we fix it? 

Services

Testimony, Papers, and Presentations

A layperson’s introduction to regulation created by Scott Hempling in support of The British Columbia Utilities Commission's inquiry into whether utility regulation should extend to utilities owned by indigenous nations.
This tesimony relates to the modification of rates, charges, and tariffs for retail electric service in Oklahoma.
The testimony relates to AltaGas’s proposed acquisition of WGL Holdings, Inc. and Washington Gas Light Company.
The testimony addresses the following: the effect of the transaction on consumers, including: (1) reasonableness of the purchase price, including whether the purchase price was reasonable in light of the savings that can be demonstrated from the merger and whether the purchase price is within a reasonable range; (2) whether ratepayer benefits . . .
Testimony addresses the issues of whether the proposed transaction affects the interests of ratepayers; the ability of JCP&L and MAIT to provide safe, adequate, and proper utility service at just and reasonable rates; and whether the proposed transaction is in the public interest.

Books by Hempling

Regulating Public Utility Performance

“[A] comprehensive regulatory treatise …. In all respects, it merits comparison with Kahn and Phillips."

Regulating Public Utility Performance:  The Law of Market Structure, Pricing and Jurisdiction

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Preside or Lead

Preside or Lead?
The Attributes and Actions of Effective Regulators

Now Available on Kindle

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Hempling Appearances

Energy Bar Association
Panel on Practice Principles for New Regulatory Lawyers


UDC Law School Panel
Is the Exelon Takeover of Pepco in the Public Interest?


Nigeria Electricity Regulatory Commission
3rd Judges’ Seminar


Telecom Forum
Asamblea Plenaria REGULATEL


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Testimonials

Working with Scott Hempling is both a pleasure and an honor. Ethical, fair-minded, and dedicated—these are a few of the attributes that Scott brings to his work and his clients. His pursuit of justice is to ensure that a practical outcome will ensue. Scott recognizes the significance of every issue and its implications for any person involved either directly or indirectly. His wide-angle lens encompasses a broad and deep technical legal knowledge that allows him to decipher and give insight into every challenge.
— Elise Herzig, President and CEO, Ontario Energy Association