Gas & Electric Municipalization

March 2021

Gas & Electric Municipalization: Cost and Benefits for the City of San Diego About the San Diego Regional Chamber of Commerce

The San Diego Regional Chamber of Commerce is the leading political advocate for business and the nexus of connections and collaboration amongst businesses in the San Diego-Baja region. For 150 years, the Chamber has been critical in driving the region forward. Through political advocacy on the city, county, and state level, the Chamber has fought to make San Diego a place where businesses can succeed and grow while creating jobs, supporting infrastructure, and ensuring that neighborhoods thrive.

About San Diego and Imperial Counties Labor Council

The Labor Council makes sure workers have a voice on the job and at the negotiating table so they can fight for better wages, healthcare, retirement security, and fair treatment on the job. The organization is made up of nurses, teachers, firefighters, retail workers, truck drivers, construction tradespeople, grocery employees, domestic workers, janitors, stagehands, college professors, and more. The strong community of workers, delegates, e-board, and staff empowers workers every day in the fight to sign quality contracts, elect pro-worker leaders, and pass worker-friendly laws.

About the Fermanian Business and Economic Institute (FBEI)

The FBEI specializes in providing business and economic consulting services to for-profit and non-profit companies, individuals, organizations, government entities, and others throughout the San Diego region, as well as nationally and internationally. Consulting services include economic analysis, forecasting, economic impact studies, business plans, market research, and feasibility studies.

FBEI Authors Lynn Reaser, Ph.D., CBE - Chief Economist Lauren Marshall, MBA - Assistant Director Brittany Augustine and Cara Liggins MBA Research Scholars

Copyright © 2021 by San Diego and Imperial Counties Labor Council and the San Diego Regional Chamber of Commerce. All rights reserved. PLNU, the Fermanian Business & Economic Institute, the Labor Council, and the Chamber disclaim any and all liability from the use of this material. Publication or distribution of any portion of this document is prohibited without the express approval of the Labor Council and the Chamber. TABLE OF CONTENTS

1 EXECUTIVE SUMMARY 4 PURPOSE 4 MUNICIPALIZATION: WHAT WOULD IT MEAN FOR THE CITY OF SAN DIEGO? 5 LEGAL CONSIDERATION/ROADBLOCK 5 ENVIRONMENTAL EFFECTS 6 RATES FOR UTILITY CUSTOMERS 6 SOCIAL, ECONOMIC, AND ENVIRONMENTAL EQUITY 7 COSTS 12 UPGRADING AND MAINTAINING THE GRID 12 LOCAL CONTROL 12 BILLING AND CUSTOMER SERVICE 12 RELIABILITY 12 POWER SECURITY 13 PERSONAL SECURITY 13 GOVERNANCE 13 LIABILITY 13 FINANCIAL RISK 13 RISK SHARING 14 TIMEFRAME 14 IMPACT ON WORKERS 15 THE RECENT HISTORY OF MUNICIPALIZATION 17 ANALYSIS OF VARIOUS MUNICIPALIZATION EFFORTS 23 CONCLUSIONS 25 APPENDIXES A. ACQUISITION COST DETAILS B. INDEX OF EXHIBITS C. METHODOLOGY EXECUTIVE SUMMARY

The City of San Diego’s consideration to take ownership of its power utility would put the City in control of purchasing natural gas or substitutes; distributing electricity and gas to customers and maintaining the distribution infrastructure; and billing and servicing all electricity and gas customers. San Diego Community Power (SDCP), the City’s new Community Choice Aggregation (CCA), will control the purchase of electricity.

It should be noted that California law may prevent San Diego from creating a municipal utility since it has already established a CCA.

This report is not and should not be read as a criticism of municipal utilities or a comparison between municipally- owned and investor-owned utilities. Instead, it is analysis of the issues faced when contemplating municipalization, particularly those for the City of San Diego.

The analysis of this report concludes that municipalization would deliver little, if any, of the City’s goals, while exposing it to enormous logistical, legal, and financial burdens and risks. A cost-benefit analysis would reject it as a path the City should follow.

Some of the key findings of the report include the following:

»» Municipalization itself implies no significant progress in reducing greenhouse gas emissions. SDCP holds the responsibility for securing greener sources of electricity. Greener sources of natural gas are now limited, expensive, and are likely to require major infrastructure investments. More importantly, environmentalists want to see a total shift away from gas to electricity. The City could mandate that transition without the costs of municipalization. Such a transition would leave a municipal utility stranded with ultimately worthless gas assets.

»» Municipalization would not imply lower utility rates. The cost of power largely will dictate customer rates. SDCP will determine the cost of electric power, while technology and markets will determine the cost of natural gas or substitutes. Although rates will no longer include a state-regulated profit margin, a municipal utility could have higher debt servicing costs, major startup expenses, and lower economies of scale.

»» Municipalization would have little impact on achieving the City’s goals of greater social, economic, and environmental equity. Other tools, such as raising targeted benefits, would be more effective on the social and economic side. SDCP already is committed to providing cleaner energy for all San Diegans and could direct funds to assist low-income households, install solar panels, or make their homes more energy efficient.

1 | Gas & Electric Municipalization »» The total acquisition costs, or the total expenditures required before the utility could launch service, would total an estimated $8.9 billion. This includes $5.2 billion as the amount estimated to purchase all of the gas and electric distribution assets from the investor-owned utility, San Diego Gas & Electric (SDG&E). Acquisition costs would include separation costs from parts of the system shared with other cities continuing with SDG&E. They would also encompass transaction expenses, the creation of various reserve funds, and other startup or fixed costs. »» Annual operating costs would equal a projected $1.7 billion in 2025 dollars, representing the year that the municipal utility would be up and running. These ongoing expenses would encompass operations and maintenance, the cost of gas purchases, debt service, reimbursement to the City to make up for lost taxes and franchise fees, and various customer programs.

»» Municipalization would provide the benefit of local control, transferring it from the private utility and the state regulator, the California Public Utilities Commission (CPUC). That local control would also mean major responsibilities, including maintaining the distribution network, investing in upgrading the network with newer technologies, pricing, billing, and many other complexities.

»» Many of these major responsibilities could also pose significant risk: • Billing and customer service. Customers will demand immediate attention to service disruptions. Major billing errors could damage the City’s reputation. • Reliability. Households and businesses place a high priority on the continuous flow of gas and electricity. Problems in the early stages of running the distribution system could disrupt service. The new utility would be responsible for determining how to curtail service during periods of weather extremes or major fire danger. • Power security. The City would be responsible for maintaining its gas and electric system from cyber or physical attacks. • Person security. The City would be accountable for safeguarding the personal financial and other customer information. • Governance. The City would need to set up an oversight board, with checks and balances. The board would oversee major decisions, ranging from pricing to investment. Preventing fraudulent activity and conflicts of interest would be key. • Liability. The city could be held liable for fires, prolonged power loss, or property damage, injuries, or deaths. • Financial risk. The City could face costly litigation and settlement costs from liability issues. It may have to backstop the utility with financing, while cost overruns could raise default risk, lowering credit ratings.

2 | Gas & Electric Municipalization »» With an investor-owned utility, shareholders bear any costs not allowed to be passed on to ratepayers by the CPUC. Municipalization would mean that the City and its utility customers would bear any and all costs.

»» Utility workers would face uncertainty about their future. They would lose their jobs, unvested benefits, and apprenticeship program and could see lower wages in the public sector. Any financial problems of the utility could jeopardize future raises and staffing levels for all City employees.

»» The time required to establish a municipal utility could be long. A 4-6 year or longer period is common. This study assumes that operations could start in 2025, which is optimistic. A franchise agreement to continue service would be necessary in the interim. However, it is uncertain what incentive there is for an investor owned utility to enter into a short-term franchise with a City seeking to acquire its assets.

»» A review of recent attempts at municipalization, especially those of the size contemplated by the City of San Diego, have mostly failed due to cost, time, and other factors.

On balance, the one possible benefit of local city control appears to be overwhelmed by a large number of costs and risks. Particularly at a time of economic stress imposed by the pandemic on its budget and the complex task of establishing SDCP, at a minimum, a delay in considering municipalization would be deemed prudent.

3 | Gas & Electric Municipalization PURPOSE

This study seeks to present decision makers of the City of San Diego with the key upsides and downsides of a proposal to municipalize, or take ownership and control of, its gas and electric utilities. It evaluates the proposal in terms of some of the City’s most important goals, such as its Climate Action Plan (CAP), social, economic, and environmental equity, and the City’s fiscal stability. The proposal analyzes the issue from the perspective of San Diego’s households, businesses, workers, and government. MUNICIPALIZATION: WHAT WOULD IT MEAN FOR THE CITY OF SAN DIEGO?

Four major components comprise the gas and electric system:

1. Generation: Solar farms, wind farms, and other facilities producing natural gas or electricity 2. Transmission: Towers, high-voltage wires, and pipelines that carry gas and electricity from the generation facilities from various locations to cities and localities 3. Distribution: Poles and wires, above and below city streets, carrying electricity to residents and businesses. Gas mains, service lines, regulating station and other equipment to deliver gas to customers. Maintenance and servicing of all electric and gas distribution facilities 4. Billing and customer service: Billing for all gas and electric accounts, pricing, and customer service

For the City of San Diego, municipalization would involve a part of the first generation component, all of the third distribution element, and all of the fourth billing and customer service segment. With respect to generation, San Diego’s newly formed Community Choice Aggregation (CCA), named San Diego Community Power (SDCP), is responsible for supplying electricity. Municipalization would mean that the City of San Diego would take over from San Diego Gas & Electric (SDG&E) the procurement of natural gas and/or substitutes. Municipalization would require the City to purchase from SDG&E all of the gas and electric distribution system and then maintain and operate it. Municipalization would also transfer all customer billing and service from SDG&E to the City.

4 | Gas & Electric Municipalization LEGAL CONSIDERATION/ROADBLOCK

According to a report issued by the consultant hired by the City in 2020, the California law enabling the establishment of CCAs, AB 117, would prevent the City from establishing both SDCP and municipalization. “The City’s Attorney’s Office advises that if the City formed a utility, SDCP could not provide retail commodity electric service to customers within the City because of provisions in the statue creating Community Choice Aggregation.”1 Given the City’s commitment to go forward with SDCP, it could be too late to choose between the two options. Any efforts at total or partial disentanglement to meet the law’s restrictions would face the complexities posed by the fact that SDCP includes four other cities: Chula Vista, La Mesa, Encinitas, and Imperial Beach.

The analysis contained in the remainder of this report assumes that this legal possible roadblock could be resolved, but that point requires urgent attention. ENVIRONMENTAL EFFECTS

Achieving the City’s goals of reducing greenhouse gas (GHG) emissions appears to be a core reason for municipalizing San Diego’s gas and electric utilities. The generation aspect of energy would dominate progress in this dimension. SDCP would be responsible for the electricity side and has already committed to moving the City’s electricity supply to 100% renewable sources by 2035.

On the gas side, although municipalization theoretically would enable the City to pursue greener sources than pure natural gas, its options in the near or medium-term would be extremely limited and costly. Renewable natural gas (RNG) sources relying on landfills and organic waste would account for only a small fraction of total possible supply and still emit GHG through methane. Hydrogen remains in early stage development. Blue hydrogen uses natural gas and then captures and stores the resulting CO2. The more expensive green hydrogen uses renewable energy sources, with electrolysis able to create hydrogen without any carbon emissions.

While high costs and limited supply pose hurdles to a substantial conversion to “decarbonized molecules,” they might not be compatible with the existing pipe system. This would require the City to make large investments to the entire gas pipeline and infrastructure.

More significantly, environmentalists advocate a total move away from all forms of natural gas with a complete reliance on electricity generated from renewable sources. The City could require all new construction to be totally electric, ban new natural gas hook-ups, or prevent sales of gas appliances, such as stoves, water heaters, and clothes dryers. It should be emphasized that municipalization would not be necessary to achieve those directives or mandates.

Any decision to restrict natural gas use would require public debate and analysis of the impact on businesses, households, workers, and ratepayers. However, if a shift away from natural gas were to occur, municipalization would leave the City with a large investment stranded in an increasingly uneconomical gas pipeline and infrastructure that ultimately would be worthless.

Municipalization theoretically could give San Diego the ability to reduce GHG by inducing greater energy consumption through its pricing. However, raising prices substantially to reduce electricity and natural gas consumption would conflict with another core objective of keeping energy costs as low as possible for consumers. In summary, with SDCP assuming the responsibility for producing green energy on the electric side and limited options available on the gas side, municipalization would yield minimal, if any, additional environmental benefits for the City.

1 JVJ Pacific Consulting LLC, Report to the City of San Diego concerning Electric and Gas Distribution Systems, June 22, 2020

5 | Gas & Electric Municipalization RATES FOR UTILITY CUSTOMERS

While customers would like to see lower utility bills, municipalization would probably have little impact. Power costs represent the most important component. SDCP would determine the cost of electricity, while market conditions and technology would drive natural gas prices or any substitutes.

The California Public Utilities Commission (CPUC) allows publicly-owned utilities to include a fair rate of return as a component of their utility rates. They are not allowed to earn a profit on any part of the cost of electricity or natural gas. The absence of the fair profit return that is allowed theoretically could lower rates. However, it is likely to be offset by the large debt servicing costs due to the purchase of the utility’s assets, establishment of a reserve fund, and working capital. Utility rates also would reflect sizable start-up costs and the time to move up the learning curve for various aspects of the enterprise. SDG&E has been running the utility since the early years of the 20th century. A city-owned utility would also not have the economies of scale possessed by SDG&E and other investor-owned utilities (IOUs) with much larger customer bases.

Most of the factors explaining the higher rates in San Diego would continue. Residential customers, who are more expensive to service compared with commercial and industrial segments, account for a larger share of the user base compared with PG&E and Edison customers, for example. About 60% of San Diego’s circuits and wires are underground versus the 40% national average. SDG&E has spent more than $2 billion for wildfire mitigation since 2007 and safeguarding against wildfires would demand future expenditures.2

In light of these factors, the premise that municipalization would deliver lower utility rates for the City’s utility customers is highly questionable. SOCIAL, ECONOMIC, AND ENVIRONMENTAL EQUITY

Municipalization would have little impact on achieving the City’s goals of achieving greater equity in various dimensions within its community. Other policy tools, including targeted benefits and programs, are better suited to address social and economic inequities. In terms of environmental equity, SDCP’s securing of renewable electricity would be delivered to all City residents. SDCP can also be expected to target some of its revenues to help disadvantaged neighborhoods. It could give special attention to low-income households to offset their utility costs, install solar panels, weatherize their homes, or achieve other energy efficiencies. Areas particularly exposed to pollution best would be served by directing fines, restrictions, or other solutions to the sources of pollution. Franchise fees or other revenue sources could be used for trees or parks in disadvantaged areas. Muncipalization would not be necessary for any of these efforts.

2 Nikolewski, R. SDG&E to spend up to $1.5 billion in next three years on wildfire prevention, February 18, 2020.

6 | Gas & Electric Municipalization COSTS

Municipalization would pose two major sources of costs for the City: acquisition costs incurred before services are launched and annual operating costs continuing after the utility is completing running. This study estimates that initial acquisition costs would total $8.9 billion. Operating costs would equal about $1.7 billion per year.

Acquisition Costs

7 | Gas & Electric Municipalization Four major components comprise acquisition costs:

Physical Assets3 This study estimates that the cost of acquiring all of the necessary assets to deliver gas and electricity to City utility customers would be about $5.2 billion in 2024. Electric assets to be purchased include electric poles, towers, overhead and underground circuits and conductors, transformers, other equipment, structures, and land. Based on replacement cost adjusted for the expected inflation rates in different categories, the cost of electric assets is estimated at $3.7 billion.

Gas assets to be purchased include gas mains, meters, measuring and regulating equipment, other physical assets, and land. The cost of gas assets is estimated at $1.5 billion. Total electric and gas costs include the cost of investment upgrades made before the purchase occurs, additional assets that may need to be purchased (such as for office space), changes in technology, acquisition delays, and market premiums. The total price could be determined either through negotiation or through litigation. It is based on 2024 dollars, the year assumed for the completion of all final transactions and asset transfers.

Separation/Reintegration Costs San Diego’s new public utility would have to be disconnected at all points where it is currently linked to the gas and/or electric systems of other jurisdictions. It then would have to be reconnected. Some forms of metering might be accomplished, but the costs of physical severance and reintegration would be substantial. Using the midpoint of total estimates supplied by the City’s consultant4, these costs are estimated at $1.5 billion.

Transaction Costs Transaction costs include the expense of debt underwriting and issuance along with engineering, consulting, and legal costs. They are estimated at $300 million.

3 See Tables A1 and A2 in Appendix A. 4 NewGen Strategies and Solutions. (2020, April 22.) Electric and Gas Franchise Agreements Consultant Report. 8 | Gas & Electric Municipalization Startup Costs Startup costs include all of the fixed costs that must be incurred before operations begin. They include the costs of information technology (IT) expenditures, different reserve funds, and other items as detailed below. They are estimated to total $1.9 billion.

Operations Startup Costs Operations startup costs would include facility leases, IT investments, and fleet purchases or leases. They are estimated at $377 million.

Initial Capital Expenditure Fund The City would need to reserve funds to cover the cost of replacing depreciated infrastructure for the first four years. Based on the current depreciation rates of different types of electric and gas assets, this fund would total $707 million.

Initial Debt Service Reserve A debt service reserve fund equal to one year of principal and interest on borrowings for asset acquisition would be necessary. This amount is estimated at $592 million.

Working Capital The City would need to have cash working capital to cover 90 days of the cost of gas purchases and operating and maintenance expense. This total is estimated at $230 million.

9 | Gas & Electric Municipalization Operating Costs The annual operating expenses accounted for in this estimate include the cost of natural gas, general operations and maintenance expenses, payments in lieu of taxes and fees, debt service, and social assistance program expenses.

This study assumes that the acquisition of infrastructure would occur during 2024. Annual operating costs are presented in 2025 dollars when the municipal utility would commence operations. These operating costs are preliminary estimates and may be significantly higher based on unknown factors, such as wildfire mitigation expenses, service contracts, recruiting expenditures, training programs, and other requirements.

Cost of Natural Gas The cost of natural gas is included in this analysis because the City would be wholly responsible for sourcing natural gas. Gas prices were projected out to 2025. Gas volumes were determined by analyzing SDG&E’s current total natural gas distribution and assuming 50% of the natural gas is distributed to City businesses and residents. The annual cost of natural gas in 2025 is estimated to be $167 million.

The cost of electricity is not included in this analysis. SDCP will be responsible for the sourcing and generation of electricity for the City of San Diego, and these rates will be passed directly on to ratepayers.

Operations and Maintenance Annual operations and maintenance expenses were determined by calculating operations and maintenance expenses per customer of several large municipal utilities in California. An average was applied to the estimated number of SDG&E customers within the City’s limits. Operations and maintenance expenses were then forecasted to 2025 based on inflation. Annual operations and maintenance expenses in 2025 are estimated to be $775 million.

10 | Gas & Electric Municipalization It is important to note that the large municipal utilities require more money per customer to operate when compared to investor-owned utilities. This may reflect greater economies of scale or efficiencies among investor-owned utilities or other priorities of municipal utilities.

Payments in Lieu of Taxes and Fees SDG&E contributes a significant amount of money to the City’s General Fund each year through franchise fees and property taxes on the assessed value of its assets located within City limits. Currently, these taxes and fees are passed on to ratepayers. If the City acquires these assets, SDG&E would no longer be paying franchise fees or property taxes that accrue to the City. In order for the City to fund the various items in its budget, the municipal utility would have to provide a payment to the City to cover the lost tax revenue.

In total, payments in lieu of taxes and fees would be about $190 million in 2025.Without revenues in the forms of taxes and franchise fees currently paid by SDG&E, the City would have to raise taxes or cut costs to cover the lost revenues.

One of the City’s primary goals has been to move its electric distribution system underground and about 60% of the project is now complete. A 3.5% surcharge on utility bills now covers that expense. The new municipality either would have to continue that surcharge or pass it on to the City to continue the undergrounding program. Tax increases, especially requiring a two-thirds vote, would face a high hurdle.

Debt Service In order to form a municipal utility, the City would need to finance a majority of the estimated costs of acquisition. These costs include the cost of physical assets, severance costs, transaction costs, and operating startup costs. This report assumes that all revenue bonds would be issued for a term of 30 years.

Annual debt service costs would depend on a variety of factors. The credit rating of the municipal utility, the total amount to be financed, and the interest rate on the debt would greatly affect the total debt service cost.

The interest rate for both taxable and tax-exempt debt is estimated for 2025. The financing cost for taxable debt is estimated at 5.5%, while the financing cost for tax-exempt debt is estimated at 5.1%. Interest rates are expected to rise from current levels as the economy reaches full employment, inflationary pressures rise, and the size of the total national debt expands. The estimated debt service cost for 2025 is $592 million.

Social Assistance Programs Social assistance programs would be used to achieve greater energy efficiency and cleaner energy, with special attention given to low-income households. While not required, it is expected that the City municipal utility would continue to provide rebates and other program offerings to increase both energy efficiency and the use of clean energy. It is also expected that the City municipal utility would provide assistance for low- income households. These program expenses are estimated to cost 1% of the annual total operations and maintenance expenses, or $7.8 million.

11 | Gas & Electric Municipalization UPGRADING AND MAINTAINING THE GRID

In addition to the acquisition costs discussed above, the new municipality would need to continue to invest to upgrade its infrastructure, including storm-proofing and undergrounding. Making it capable of responding to the particular needs of renewable energy sources would also require major investments.

Repairing and maintaining these new investments on a consistent basis would add to annual operating costs, along with other responsibilities, such as mitigating fire danger.

LOCAL CONTROL

The primary benefit municipalization offers is the transfer of control from the private utility and state regulation to the City. This would give it authority over investments in the distribution infrastructure, pricing, service quality, and various energy programs. This benefit would also carry with it a large scope of complexity and risks as discussed below.

BILLING AND CUSTOMER SERVICE

As part of municipalization, the City would assume responsibility for billing and customer service for all of nearly 600,000 electric customers and close to 450,000 gas customers. This would require the City to acquire any new facilities, systems, and software needed. Customers would demand quick response to any electric or gas disruptions. Billing errors or major inaccuracies, such as occurred with water billings by the City in 2017, could damage seriously the City’s image and credibility.

RELIABILITY

Households and businesses demand reliability and are dependent on a continuous, uninterrupted flow of electricity and gas. As the City moves up the learning curve, customers could face a greater risk of service disruption. The impacts of fire-related shut-offs in California or the severe shutdowns in Texas underscore the outrage and hardship arising from energy disruptions. The City would be responsible for constant service, maintenance, and repair. This would entail rapidly responding to power outages due to a wide range of factors, ranging from fallen trees to broken gas mains. The City would also be required to determine which areas would need to have power curtailed during periods of extreme weather. Although a city-owned utility would not fully control all vulnerable points, such as the total electrical grid, it would be responsible for many and held accountable for all.

POWER SECURITY

The nation’s water, electrical, and gas utilities remain vulnerable to either foreign or domestic cyber or physical attacks. The recent attempt to poison a water system in Florida underscores the investments and safeguards that a new municipal utility would need to install, maintain, and continually upgrade.

12 | Gas & Electric Municipalization PERSONAL SECURITY

The assumption of billing responsibility would place the City with additional responsibility of protecting the personal identity and information of its customers. It would become liable for any breaches of that security, undermining trust in City government and potentially triggering legal action.

GOVERNANCE

The CPUC now regulates San Diego’s gas and electric utility to ensure safe and reliable service at prices tied to costs. Municipalization would require the City to establish its own oversight board, with a careful system of checks and balances. Importantly, it would be responsible for preventing any kind of fraudulent activity as well as conflicts of interest. A gas and electric board, comprised of elected and/or appointed officials, is likely to be necessary. Such a board may also be charged with making critical decisions, such as those involving pricing, investment decisions, incentive programs, and other issues.

LIABILITY

Municipalization would expose the City to significant liability risk. It could be held negligent for property damage, injuries, or deaths from fires, such as the severe 2007 inferno. It could be held responsible for prolonged power outages, such as recently occurred in Texas. Personal security breaches or employee endangerment could be sources of liability risk. Property damage and injuries stemming from claims of negligence in maintaining parts of the gas and electric infrastructure could pose other risks. Litigation and settlement costs could be high, along with insurance rates. SDG&E has a much larger customer base of about 1.5 million electric customers to spread those costs across vs. the fewer than 600,000 electric customers in the City of San Diego.

FINANCIAL RISK

Financial risk for the City of San Diego could involve several dimensions. Customer or employee fraud in its new utility could be an issue. The City could face costly lawsuits over the large liability issues noted above. The City might have to backstop the new municipal utility with funding should it be required. Cost overruns could raise default risk, reducing the utility’s or the City’s credit rating.

RISK SHARING

With an investor-owned utility, shareholders are held accountable for any costs the CPUC believes should not be borne by ratepayers. If the City were to assume ownership, it and its ratepayers would bear the sole responsibility for any and all costs.

13 | Gas & Electric Municipalization TIMEFRAME

The roadmap towards municipalization would be lengthy, taking up to as much as ten years. The process involves a number of steps. Detailed feasibility studies must be conducted to complete the City’s due diligence. Asset valuations must be accurately evaluated and then would need to either be negotiated with the current owner (SDG&E) or litigated through the court system. Physical or logistical hurdles of disconnecting and reconnecting systems where the City currently shares joint distribution systems with other municipalities would need to be overcome. The City would then need to establish sound governance for the new entity, purchase new equipment and software, and recruit and hire staff.

For the purpose of this report, it was assumed that operations would begin in 2025, but this could be optimistic. Further delays would raise costs further.

In the period between when the current franchise expires in June 2021 and the beginning of municipal operations, the City would have to determine who would run the distribution system. With very short-term arrangements, the provider would have little incentive to make the critical investments to upgrade the system and make more than the minimal investments to ensure its safety, security, and reliability.

IMPACT ON WORKERS

Utility workers face considerable uncertainty regarding their future. They would lose their jobs in the private sector along with benefits accrued there. Municipal pay scales are typically lower than the private sector as cities have generally offered greater job security and attractive pensions. San Diego has moved away from a guaranteed pension program, reducing one of the previous benefits of City employment. Many employees leaving their current position could see significant pay reductions if they were hired by the municipal utility. They would also lose their retirement benefits if not fully vested. Utility workers now have access to a valuable apprenticeship program, which they would lose unless the City devotes the necessary resources to establish its own program.

All City employees might be affected adversely. High start-up costs, operating cost overruns, or major lawsuits could confront the City. Any financial strains caused by the new municipal utility or cost shifting from ratepayers to the City could jeopardize pay raises or staffing levels in all departments.

14 | Gas & Electric Municipalization THE RECENT HISTORY OF MUNICIPALIZATION

Comparisons with California’s largest publicly-owned utilities have very limited relevance since they were established early in the last century when much of each city’s infrastructure was just being built. The Sacramento Municipal Utility District (SMUD) was established in 1923. The Los Angeles Department of Water and Power (LADWP) was initially begun as a water supplier in 1902, with expansion into electrical power in 1916.

Since 1973, a total of 88 new public power utilities have been established in the U.S., according to Ursula Schryver, vice president of the American Public Power Association. Most of these have been small, with customer bases of 18,000 or fewer.5 In contrast, the City of San Diego would be serving about a million electric and gas accounts for households and businesses.

The more recent experience has seen few successes. Since 2000, for example, 64 jurisdictions have considered municipalization of their electric systems, but only nine have succeeded. Two others were formed but then sold back to the investor-owned utility. Roadblocks to converting IOUs to publicly-owned ones have included voter opposition, regulatory objections, and time and cost numbers that have typically escalated widely above initial estimates. Municipalization generally takes 4-6 years or longer, according to Schryver. Costs can easily double from initial estimates.

5Nikolewski, Rob. (2021, February 27). San Diego Hears Pitch for Public Power Option. The San Diego Union-Tribune.

15 | Gas & Electric Municipalization 16 | Gas & Electric Municipalization ANALYSIS OF VARIOUS MUNICIPALIZATION EFFORTS

Boulder, Colorado Summary of Effort In 2010, the city of Boulder began discussions to allow the city to take over the responsibility for supplying electricity to its then 97,000 inhabitants. The company that Boulder was attempting to eradicate from the city was Xcel Energy. Xcel was founded in 1999 and services 3.3 million people in total and 106,000 within the city of Boulder. Boulder had been considering municipalization since the 1960s in an attempt to cut costs and begin the process of undergrounding transmission lines. The goal of the municipalization was to start using renewable energy sources, a transition that Xcel was slow to make. That same year, the city voted to end its partnership with Xcel and move forward with funding a publicly-owned electric utility. In both 2011 and 2015, the citizens of Boulder voted in favor of a utility tax that would support the pursuit of this municipalization.6

The city initially estimated that it would cost anywhere from $150 million to $214 million to acquire Xcel’s existing infrastructure, while Xcel believed it would cost nearly $900 million. On three separate occasions, the city made bids for Xcel’s assets, exclusive of their substations. The final offer of $94 million was made in November of 2020 in an attempt to circumvent another condemnation proceeding. Xcel did not consider either of the first two offers but took the third into account before eventually declining.

Relevance and Key Takeaways Boulder, Colorado functions as a high-level example of an aggressive, hands-on, and hard-fought approach to municipalization. Aside from high costs, the city and community of Boulder had a specific agenda in their efforts to municipalize. Xcel is a relatively newly established company in Boulder and does not have the same roots as 140-year-old San Diego Gas and Electric. It is a much easier and less expensive process to municipalize against a 10–20-year-old company than it is for a company founded in 1881. Additionally, in their respective cities, Xcel services only 8.2% of the households compared to SDG&E. The land mass of Boulder is also much smaller than that of San Diego at 26 square miles, which indicates there are fewer costs associated with infrastructure than the city of San Diego would encounter.

For nine years, the city of Boulder did not have a contractual agreement with Xcel as it pursued efforts to municipalize, but in 2020, the two parties reached a settlement requiring the company to implement more renewable energy efforts. In fact, $2 million collected from the municipalized utility tax was reallocated to Xcel’s pursuit of clean energy. As of 2019, the company has more than doubled its percentage of electricity coming from renewables. This figure is projected to grow by 32 percentage points to reach the target of 60 percent by 2030.7

6Hagey, P. (2017, August 09). Boulder’s municipalization effort, explained. BLDRfly. Retrieved from https://bldrfly.com/ news/2017/08/09/boulders-municipalization-effort-explained/ 7Sakas, M. E. (2020, November 20). Boulder ends decade long pursuit of city-owned power utility. CPR News. Retrieved from https:// www.cpr.org/2020/11/20/boulder-ends-decade-long-pursuit-of-city-owned-power-utility/

17 | Gas & Electric Municipalization San Francisco, California Summary of Effort In the 1990s, several discussions of municipalization arose due to concerns over extensive power outages coupled with high electricity bills. Pacific Gas and Electric (PG&E) was founded in 1905 and services 5.2 million households, or 16 million people, spanning from Bakersfield to Santa Barbara County. They occupy a geographical area of 70,000 square miles, but the city would only look to take over the 47 square miles within city limits. While the geographical area is seemingly insignificant, the population of San Francisco encompasses 875,000 people within 366,000 households.

Following the fires that ravaged California in 2019, concerns resurfaced, and the City of San Francisco offered Pacific Gas and Electric $2.5 billion to take over the electric utility that it currently serves within theCity.8 Critics claim that not only is PG&E too expensive, but they state that the company has not made significant infrastructure investments in previous years. PG&E filed for bankruptcy early in 2019 due to $30 billion in liability claims as a result of the Northern California wildfires. In June of 2018, almost 75% of voters granted San Francisco Public Utilities Commission (SFPUC) the ability to establish electric infrastructure. The City recognized that doing so would be costly but assuming full independence of the electric utility would decrease customers’ rates significantly in the long run. San Francisco City Attorney, Dennis Herrera released a statement saying, “We’re not interested in profit. We’re interested in providing safe, affordable power to ratepayers rather than trying to make sure that stockholders are getting some great rate of return on their investment.”9 PG&E claims that municipalizing is not in the best interest of the City or of its citizens and quickly rejected the City’s bid.

Relevance and Key Takeaways The geographical area of San Francisco is still limited in comparison to that of San Diego, but the population of San Francisco is much closer to San Diego’s. San Francisco has approximately 71% of the households that San Diego does. Similar to SDG&E, Pacific Gas and Electric was founded more than 100 years ago, so the partnership between the City and the utility company has been longstanding. In both cities, members of the community suggest that electric costs are far too high in comparison to Sacramento, a city that municipalized over a century ago.

Despite PG&E’s rejection of the City of San Francisco’s bid, the mayor and officials still look to proceed in negotiations with the company. This effort has shown the difficulty associated with uprooting a large and well- established utility company. San Francisco’s attempt to municipalize appears to be at a temporary halt, but consumers are not pleased with PG&E’s handling of its current situation.

8Ambort, L. (2020, March 05). Spreading like wildfire: An interest in making electric power public. Institution for Local Self-Reliance. Retrieved from https://ilsr.org/municipalization-electric-utilities-update-2020/ 9Hutson, S. (2019, September 08). San Francisco offers to buy PG&E electric grid in the city for $2.5 billion. KQED. Retrieved from https:// www.kqed.org/news/11773007/san-francisco-offers-to-buy-pge-electric-grid-in-the-city-for-2-5-billion. 18 | Gas & Electric Municipalization Decorah, Iowa Summary of Effort Alliant Energy, founded in 1917, is the electric distributor for the 2,725 households in Decorah, Iowa. The small county pays 100 million dollars per year to the energy company, but a study conducted showed that a municipalization would cut electric utility costs by 30% and simultaneously introduce more renewable energy.10 In 2018, the City voted against municipalization by three votes, but this will not be the end of Decorah’s efforts. It has already decided to put the matter up for a vote once again in 2022 and has established a municipalization task force to review the results of the previous feasibility study and authorize a second one.

The main question for Decorah is whether it has the capital to fund such an investment. The initial feasibility study indicated that the effort would cost $5 million to complete. Researchers suggested that the City use 20-year taxable bonds to fund this investment. Alliant Energy estimated the cost of municipalization to be around $51 million for Decorah.11 Due to the size of the City, Decorah has a better chance than most cities to complete a municipalization as long as the citizens are on board. Since Decorah only makes up 3% of Alliant Energy’s revenue, it should not be entirely difficult for the City to sever ties with the company.

Relevance and Key Takeaways The case of the City of Decorah is not comparable to what a municipalization would look like in San Diego. For starters, Decorah is considerably smaller than San Diego and costs would be significantly lower. However, being in the early stages of pursuing a municipalization provides key insights to the City of San Diego and how it would proceed if it were to attempt to municipalize.

Pueblo, Colorado Summary of Effort Pueblo, Colorado, has a population of approximately 160,000. It is situated near the Arkansas River and does not receive a significant amount of snow, which could be used to generate electricity.

Pueblo’s Board of Directors voted to pursue municipalization in April 2020. The chamber of commerce cited that it would save ratepayers money in the long run; however, there would be no immediate reductions in rates. It also noted that the City would not use taxpayers’ funds to start the utility despite it being estimated to cost over $868 million. Some positive outlooks included local control and ease of decision-making, but many opposed municipalization. “Pueblo CARES, a group that opposed the measure, raised $1.5 million compared to Bring Power Home 2020’s $31,000. Bring Power Home 2020 was formed to support the Pueblo municipalization effort.”12 In May of 2020, municipalization was outvoted.

Many residents of Pueblo looked at Boulder, Colorado’s 10-year municipalization struggle at what may be ahead if the City decided to municipalize. With fears of legal battles, slow change, and millions of tax dollars needed to make the change, many chose to oppose.

Relevance and Key Takeaways This effort is relevant because, even though estimates were showing that it was financially feasible and obvious support from the chamber, it was not enough to get the legislation passed by voters. This is a significantly smaller city; therefore, the infrastructure needed and housing density are not comparable to that of San Diego.

10Farrell, J. (2018, May 31). Votes for Decorah municipal utility falls short, but local energy advocates persist. Institution for Local Self-Reli- ance. Retrieved from https://ilsr.org/failed-ballot-measure-for-city-owned-utility-in-decorah-demands-serious-reconsideration-of-process/ 11Maloney, P. (2020, December 10). Decorah, Iowa city council votes to create municipalization task force. American Public Power Associa- tion. Retrieved from https://www.publicpower.org periodical/article/decorah-iowa-city-council-votes-create-municipalization-task-force. 12Pueblo voters turn aside municipalization proposal. (n.d.). Retrieved February 24, 2021, from https://www.publicpower.org/periodical/ article/pueblo-voters-turn-aside-municipalization-proposal.

19 | Gas & Electric Municipalization Chicago, Illinois Summary of Effort Chicago is the most populous city in Illinois and the third most populous city in the United States with almost 2.7 million people.

The mayor has hopes that the municipality might push the City towards sustainability goals. The City already has a public water utility. There has also been a push to municipalize due to the corruption and federal investigations taking place in ComEd. A deep and very detailed study began in 2019 that would investigate the costs and long- term projections involved in municipalization. This study was meant to give the people of Chicago a thorough understanding of what municipalization would entail.

The mayor’s office came out with a study in August of 2020 revealing that it would not be financially feasible to municipalize. The mayor stated the effort would cause an increase in the rate of power of up to 43% in the first year.13 This increase would come from extra costs of infrastructure. In light of this study, they have determined they will continue negotiations towards a new franchise agreement. While municipalization was rejected, the mayor did ensure there would be “no new Franchise Agreement with ComEd until the company produces a comprehensive ethics reform plan that rebuilds trust with the City, its residents, and businesses while working to achieve our public policy goals.”13 Due to the economic crisis that came with the pandemic in 2020, the possibility of municipalizing became less feasible. “It would cost about $8.8 billion to cut ties with ComEd.”14

Relevance and Key Takeaways This municipalization effort was a failure due to the negative impacts on ratepayers and the financial burden it would place on the City. With the Covid-19 pandemic placing a major constraint on budgets, it is very unlikely that any major endeavors that cost the City $8.8 billion will take place soon. The Covid-19 pandemic is still ongoing and long-term effects could place constraints on budgets for years to come.

13 City of Chicago releases findings of preliminary municipal utility feasibility study. (n.d.). Retrieved February 24, 2021, from https://www. chicago.gov/city/en/depts/mayor/press_room/press_releases/2020/august/ MunicipalUtilityFeasibilityStudy.html 14Gheorghiu, I. (2020, September 01). Cutting ties with ComEd could cost CHICAGO $8.8b, report finds. Retrieved from https://www. utilitydive.com/news/cutting-ties-with-comed-could-cost-chicago-88b-report-finds/584474/

20 | Gas & Electric Municipalization Pittsburg, Kansas Summary of Effort Pittsburg is the most populous city in Southeast Kansas with just over 20,000 people. It has a long history associated with coal mining.

Municipalization came about because “Kansas has the highest electric rates of any of our neighbors despite the fact that wholesale power is amongst the cheapest in the nation. Evergy’s rates have only recently stabilized and that is a result of a legal settlement reached with the Kansas Corporation Commission.” 15 The drive behind efforts to acquire the utility’ assets is to prevent ongoing overpricing after the current legal 5-year mandate expires.. Evergy conducted a study to show how much more municipalization would cost, but it was highly speculated that prices were inflated compared to other studies.

“The Pittsburg City Commission voted Tuesday to officially prevent City staff from spending any additional money on consultants it contracted within the last year to study the possibility of taking over providing electricity locally from power company Evergy.”16 The reasoning behind this is because in prior elections it showed voters were not in favor. The commissioner stated that there were more important areas the City could focus their money on such as a new wastewater treatment plant and street maintenance. While efforts can still be made to push the municipalization forward, there will be no taxpayer dollars being put towards this effort.16

Relevance and Key Takeaways Although Pittsburg is not comparable to San Diego in regards to population and infrastructure, it is important to note that cost is a major hurdle. Even a city the size of Pittsburg realizes that efforts and funds can be better spent elsewhere.

15Riley, J. (2020, July 29). Pittsburg commission votes to freeze ELECTRIC municipalization funding. Retrieved from https://www.morn- ingsun.net/story/news/politics/county /2020/07/29/pittsburg-commission-votes-to-freeze-electric-municipalization-funding/43280599/ 16Dodge, Z., & Dodge, Z. (2019, December 20). Evergy releases feasibility study into PITTSBURG’S public utility Idea. Retrieved from https://www.koamnewsnow.com/ evergy -releases-feasibility-study-into-pittsburgs-public-utility-idea/

21 | Gas & Electric Municipalization Maine Summary of Effort Maine is the 12th smallest state by area and the 9th least populous state in the United States with approximately 1.34 million people.

There are several reasons the state of Maine is considering establishing a publicly owned electric utility for the entire state. While having a state-owned electric utility is slightly different from municipalization, there are still insights to be gleaned from Maine’s efforts.

Upon looking into a public electric utility, the state of Maine immediately ran into some problems17: • Electricity rates for Maine consumers are likely to go up through 2034 as a result of a transition to the government-run electric utility, with the potential for lower rates in the future, depending on many assumptions. • It would likely take five or more years of litigation before Maine could take over CMP and Emera Maine (now Versant Power), and in the interim, the uncertainty would risk disinvestment in the system and loss of current employees. • There is no guarantee of improved reliability or customer service with a government-run utility. • State and local tax revenues could be lost.

Relevance and Key Takeaways Maine’s efforts to establish a publicly owned electric utility are in its infancy. With similar population levels and 573,000 households compared to San Diego’s 512,000 households, it would be comparable. While the housing density will be more of an issue in San Diego, there are still similarities. The main hurdles that Maine faces in these efforts are similar to those that City of San Diego residents need to consider – limited savings, if any, on electricity rates, drawn out litigation process, questionable reliability, and loss of local tax revenues.

Conclusion from Past Municipalization Attempts The majority of attempts to municipalize are a result of high electricity rates and a lack of sustainable energy sourcing in the area. In the case of San Diego, SDCP has already addressed that issue. With respect to the other issues regarding municipalization, the size of San Diego should be considered in comparing the experience to other case studies. As evidenced by Boulder, Colorado, a significantly smaller community, municipalization efforts may take up to more than a decade, but still have the chance to fail. Recent municipalization attempts, specifically those that are comparable to the size of the City of San Diego, have been unsuccessful for various reasons. Cost and time greatly exceeding those of preliminary estimates have been the primary factors for abandoning municipalization. In some cases, voters or regulatory bodies rejected municipalization attempts. If we look at recent history, many more municipalization attempts have failed than have succeeded.

17Maine Power Facts. (n.d.). Research & reports. Retrieved February 24, 2021, from http://www.mainepowerfacts.com/research-reports/

22 | Gas & Electric Municipalization CONCLUSIONS

Impact on Key Stakeholders San Diego households and businesses hold low utility rates and reliability as key components in their demands on utility providers. Municipalization would likely have minimal effect on rates, while the risk of service interruption could rise.

The City of San Diego has committed to a plan to reduce sharply greenhouse gas (GHG) emissions, including a goal to source 100% of its electricity from renewable sources by 2035. It is dedicated to increasing social and economic equity. To achieve these goals, the City must remain financially stable.

This report’s analysis indicates that municipalization would have minimal impact on environmental goals as SDCP assumes that responsibility. Municipalization would likely have minimal effects on social and economic equality, while SDCP is dedicated to providing cleaner energy to all of the City’s residents. The financial risks facing the City are very large, including the projected rise in its debt and financing costs.

Utility employees prioritize their job security and compensation. Municipalization would disrupt their positions and likely adversely affect them financially.

Logistical hurdles would involve negotiations to purchase utility distribution assets, condemnation proceedings, and separation of service in adjacent areas. The City would also face the administrative, staffing, and technological challenges of setting up an entire new entity to deliver gas and electricity to homes and businesses, manage all billing, and procure gas supplies. The risks contain a long list, including system maintenance expenses, investment upgrade costs, fires, weather extremes, billing errors, security breaches, fraud, earthquakes, and lawsuits.

23 | Gas & Electric Municipalization Recommendation On balance, for major stakeholders, municipalization would have minimal positive benefits, while exposing households, businesses, and workers to downside risks. For the City, municipalization would deliver few if any of its goals, while exposing it to enormous logistical, legal, and financial burdens and risks. A cost-benefit analysis would reject it as a path the City should follow. This would allow the City to channel its resources in ways that it can be much more effective. Particularly at a time of economic stress imposed by the pandemic on its budget and the complex task of establishing SDCP, at a minimum, a delay in considering municipalization would be deemed prudent.

24 | Gas & Electric Municipalization Appendix A: ACQUISITION COST DETAILS

25 | Gas & Electric Municipalization Appendix B: INDEX OF EXHIBITS

Exhibit 1 FUNDING COSTS OF MUNICIPALIZATION 7

Exhibit 2 ACQUISITION COSTS TOTAL $8.9 BILLION 7

Exhibit 3 ACQUISTION COSTS OF DISTRIBUTION INFRASTRUCTURE 8

Exhibit 4 ANNUAL OPERATING COSTS TOTAL $1.7 BILLION 10

Exhibit 5 DEMOGRAPHICS SUMMARY 11

Exhibit 6 MUNICIPALIZATION ATTEMPTS 15-16

Exhibit 7 COST/BENEFIT EVALUATION OF MUNICIPALIZATION 23

26 | Gas & Electric Municipalization Appendix C: METHODOLOY

Acquisition Costs The cost of acquisition required the calculation of four major expense components: physical assets, separation and reintegration, transaction costs, and startup costs.

The cost of acquiring all of the gas and electric distribution assets from SDG&E used as a base the data contained in the study commissioned by the City from NewGen Strategies and Solutions. Inflation factors and forecasts for land relied on the S&P/Case Shiller Home Price Index as an indicator of price increases in the land component. The Handy + Whitman Index of Public Utility Construction Costs and projections were used for the other elements. Values were projected for 2024 on the assumption that the ultimate sale price would reflect the valuations of that year. A 15% premium was included to encompass the costs of any investments prior to purchase, additional assets that may need to be purchased, new technologies, compensation for losses of an ongoing business concern, market conditions, and possible time delays. This margin was considered essential since studies have typically significantly underestimated asset acquisition costs.

Considerable uncertainty exists regarding what the costs would be of separating the new utility from that currently shared with other municipalities remaining with the investor-owned utility. Some form of metering would be a lower cost solution, while a physical disconnection and subsequent reconnection would be costly. This study used the midpoint of the estimates provided in the NewGen report.

Transaction costs, encompassing consulting, engineering, legal, financing, and underwriting fees, were estimated at 5% of the cost of physical assets based on calculations used in other studies. Startup costs included four elements: operations startup costs, the costs of establishing an initial capital expenditure fund and a debt serve reserve, and working capital costs.

Startup costs, including the purchase of various fixed assets, including facilities, fleet, and IT equipment, were based on estimated included in the Pueblo study, scaled up for San Diego’s size.

The dollar amount for the initial capital expenditure fund was calculated as the cost of replacing infrastructure for the first four years of operation. The depreciation rates used by SDG&E, included in the NewGen study, were used in this computation.

The cost of establishing an initial debt service reserve was estimated as the principal and interest for one year of financing the cost of acquiring the physical assets and the separation and reintegration costs.

Working capital requirements were estimated at 90 days of the cost of inputs (gas purchases) and operating and maintenance expense, following standard business guidelines.

27 | Gas & Electric Municipalization Operating Costs The annual operating costs required calculation of five major components: cost of natural gas, general operations and maintenance expenses, payments in lieu of taxes and fees, debt service, and social assistance programs.

The cost of natural gas was calculated by analyzing the Henry Hub gas price average for 2019 compared to that of SDG&E. An adjustment factor was calculated based on the difference. Gas future prices, including the adjustment, were applied to predict the average cost of natural gas in 2025. This price was applied to 50% of SDG&E’s current natural gas distribution load.

For general operations and maintenance expenses, average O&M expenses per customer were calculated for both LADWP (power only) and SMUD based on 2019 financial statements. An average O&M expense per customer was also calculated for SDG&E based on 2019 financial statements. An average of the three was taken to assume O&M expenses per customer for a City of San Diego municipal utility. This average was applied to 42% of SDG&E’s customer base from 2019. Inflation factors were applied to convert the O&M expenses to 2025 dollars.The 42% share was based on assumptions and calculations in the NewGen report.

Payments in lieu of taxes and fees were calculated by gathering the dollar amounts of property taxes and franchise fees paid by SDG&E to the City of San Diego in 2019. Inflation factors were applied to this total number to convert the taxes and fees to 2025 dollars.

For debt service calculations, a 5.50% interest rate on taxable debt and a 5.15% rate on tax-exempt debt were used. This reflected the expected increase in yields on 10-year Treasury notes over the next four- five years as the economy reaches full employment, inflationary pressures rise, and the size of the total national debt expands. It also reflected the expected spread of municipal bond yields relative to those of Treasury securities and the specific relative position of taxable and tax-exempt bonds issued by the City of San Diego.

The purchase of the physical distribution assets, separation costs, and startup costs were assumed to be financed with taxable debt, backed by the revenues of the new City-owned utility. Working capital and the reserve funds were assumed to be financed with tax-exempt bonds, backed by the City’s general revenues.

It was assumed that an additional 1% of total O&M expenses would be spent on social assistance programs.

28 | Gas & Electric Municipalization 402 W. Broadway #1000 3737 Camino del Rio S San Diego, CA 92101 San Diego, CA 92108