          TEXAS COURT OF APPEALS, THIRD DISTRICT, AT AUSTIN



                                         NO. 03-02-00569-CV




  City of Abilene, Texas; City of San Angelo, Texas; and City of Vernon, Texas, Appellants


                                                     v.


       Public Utility Commission of Texas and West Texas Utilities Company, Appellees




        FROM THE DISTRICT COURT OF TRAVIS COUNTY, 250TH JUDICIAL DISTRICT
          NO. GV200052, HONORABLE MARGARET A. COOPER, JUDGE PRESIDING




                              MEMORANDUM OPINION


                The cities of Abilene, San Angelo, and Vernon (collectively, ACities@) appeal a district court

judgment upholding a Public Utility Commission order approving West Texas Utilities Company=s(AWTU@)

application for approval of unbundled cost of service rates. In two points of error, the Cities specifically

oppose that part of the order imposing an eighty percent demand ratchet for transmission and

distribution rates on municipal water pumping customers. The Cities contend that the demand

ratchet unreasonably discriminates against municipal water pumping customers because they are

similarly situated to seasonal agricultural customers, who received the exemption. The Cities further
contend that the Commission=s failure to grant the exemption to municipal water pumping customers

was arbitrary and capricious. For the reasons stated below, we affirm the judgment of the district

court.


                        FACTUAL AND PROCEDURAL BACKGROUND

                  In 1999, the legislature amended the Public Utility Regulatory Act (APURA@)1 to establish

competition in the retail market for electricity, beginning January 1, 2002. It enacted chapter 39 of PURA

Ato protect the public interest during the transition to and in the establishment of a fully competitive electric

power industry.@ Tex. Util. Code Ann. ' 39.001(a) (West Supp. 2003). As part of the utility industry

deregulation, the legislature created a statutory scheme whereby the regulated utility industry would be

separated or Aunbundled@ into three distinct entities: (1) power generation companies; (2) retail electric

providers; and (3) transmission and distribution utilities. Id. ' 39.051 (West Supp. 2003). This case

concerns WTU=s transmission and distribution rates.




         1
             Tex. Util. Code Ann. '' 11.001-64.158 (West 1998 & Supp. 2003).



                                                       2
                 Utilities, including WTU, submitted applications for approval of unbundled costs of

service, with the Commission still regulating the transmission and distribution rates. In re TXU Elec.

Co., 67 S.W.3d 130, 132 (Tex. 2001) (ABecause the generating companies and retail electric providers

must use the existing power lines to move electricity from the plant to the retail customer . . ., the

transmission and delivery companies . . . remain regulated monopolies.@). With some transmission and

distribution rate issues common to all of the applications, the Commission held a proceeding to

determine the common issues (Ageneric proceeding@) and issued an interim order establishing

customer classifications and rate designs for all transmission and distribution rates. 2 Included in the

order was a provision imposing an eighty percent demand ratchet3 on transmission and distribution


        2
          Tex. Pub. Util. Comm=n, Generic Issues Associated with Applications for Approval of
Unbundled Cost of Service Rate Pursuant to PURA ' 39.201 and Public Utility Commission
Substantive Rule ' 25.344, Docket No. 23444 (Nov. 22, 2000) (interim order establishing generic
customer classification and rate design).
        3
          ADemand@ is instantaneous energy usage. Utilities charge most customers on a monthly basis, but
customers using larger amounts of electricity may have meters that track use every fifteen or thirty minutes.
Under the eighty percent demand ratchet, the utility bases the customer=s transmission and distribution billing
rate on the greater of current monthly demand or eighty percent of the customer=s monthly demand for the




                                                      3
rates for customers with electric meters that tracked demand. The order exempted seasonal

agricultural customers from the demand ratchet based on evidence that the ratchet would overburden

cotton ginners, because they operated only sixty to ninety days per year and used very little electricity

for the rest of the year.4




preceding eleven months.
        4
          Because cotton ginners were the only seasonal agricultural customers in the proceeding, for clarity
and brevity we will refer to them as Acotton ginners.@




                                                     4
                 The Commission denied other customers= applications for exemption from the demand

ratchet and determined that it would consider their applications in the utilities= individual ratemaking

proceedings. The Commission would consider exemptions to the generic rate design Aonly if

necessary to address extraordinary impacts on the ability of customers to obtain service from a

competitive provider due to the restrictions of the price to beat (i.e., >headroom= concerns).@5 The

order went on to state that Abecause the transmission and distribution rates . . . represent a relatively

small proportion of an end-use customer=s bill, the design of such rates shall be amended only in the

case of exceptional headroom concerns. Such headroom concerns should not automatically mandate

the granting of an exception to the generic rate design.@

                 The Cities, who were customers of WTU and other utilities, sought an exemption

from the demand ratchet in WTU=s individual ratemaking proceeding (AWTU proceeding@).6 The

Cities= basis for entitlement to the exemption was that the municipal water pumping customers=

variable electrical demand was similar to the cotton ginners= variable demands. Imposing a demand



        5
            AHeadroom@ refers to the margin between the Aprice to beat@ and the new retailer=s costs of
providing electricity. From January 1, 2002 until January 1, 2007, electric providers formerly affiliated with
regulated utilities must provide electricity at rates that are six percent lower than their rates before
deregulation. This rate is known as the Aprice to beat.@ See Tex. Util. Code Ann. ' 39.202 (West Supp.
2003). In enacting the price-to-beat statute, the legislature intended for new retail electric providers not
affiliated with the regulated utility industry to enter the market and compete for customers with affiliated retail
electric providers, those that were formerly part of the bundled utility companies. Thus, the greater the
headroom, the more a customer may take advantage of competitive rates.
        6
          Tex. Pub. Util. Comm=n, Application of West Texas Utilities Company for Approval of
Unbundled Cost of Service Rate Pursuant to PURA ' 39.201 and Public Utility Commission
Substantive Rule ' 25.344, Docket No. 23544 (Oct. 24, 2001) (final order establishing WTU=s
unbundled cost of service rate).


                                                        5
ratchet on this variable demand would cause lower headroom, putting the municipal water pumping

customers at a disadvantage in seeking competitive electrical rates. The Commission determined that

it would not expand the demand ratchet exemption to include municipal water pumping customers

because the expansion Ais not warranted on the basis of extraordinary headroom concerns.@

               The Cities sought review of the WTU proceeding order in a Travis County district

court, which affirmed the Commission=s order. In two points of error, the Cities appeal the judgment

of the district court. They contend in their first point of error that the Commission=s unequal rate

treatment of cotton ginners and municipal water pumping customers constitutes unreasonable

discrimination in ratemaking, in violation of PURA section 36.003. See Tex. Util. Code Ann.

' 36.003(c) (West 1998) (a utility may not grant an Aunreasonable preference or advantage

concerning rates@ or Asubject a person in a classification to an unreasonable prejudice or disadvantage

concerning rates@). They contend in their second point of error that the Commission acted arbitrarily

and capriciously by applying a Adifferent, vague standard@ to municipal water pumping customers than

the standard applied to the cotton ginners.


                                    STANDARD OF REVIEW

               The parties disagree about which standard of review applies. The Cities urge that we

apply an arbitrary and capricious standard of review. The Commission and WTU contend that we

are required to apply a substantial evidence standard of review. Both assertions are correct in part

because the Cities= two points of error require different standards of review.

               In their first point of error, the Cities contend that the Commission failed to identify

substantial differences between municipal water pumping customers and cotton ginners to justify

                                                  6
disparate rate treatment and thus that the Commission unreasonably discriminated against the

municipal water pumping customers. In other words, the Cities assert that substantial evidence does

not support the Commission=s decision in the WTU proceeding not to grant an exemption to the

municipal water pumping customers.             Therefore, we will review the Cities= unreasonable

discrimination challenge under a substantial evidence standard of review.7

                We must uphold an agency action unless we find, among other factors, that the action

is A[n]ot reasonably supported by substantial evidence considering the reliable and probative evidence in the

record as a whole@ or is Aarbitrary or capricious or characterized by abuse of discretion or clearly

unwarranted exercise of discretion.@ Tex. Gov=t Code Ann. ' 2001.174(2)(e), (f) (West 2000).

Under substantial evidence review, we may not substitute our judgment as to the weight of the evidence for

that of the agency. Texas Health Facilities Comm=n v. Charter Med.BDallas, Inc., 665 S.W.2d 446,

452 (Tex. 1984). We must first determine whether the evidence as a whole is such that reasonable minds

could have reached the conclusion that the agency must have reached to take the disputed action. Texas

State Bd. of Dental Exam=rs v. Sizemore, 759 S.W.2d 114, 116 (Tex. 1988); Ramirez v. Texas State

Bd. of Med. Exam=rs, 995 S.W.2d 915, 919 (Tex. App.CAustin 1999, pet. denied). The test is not

whether the agency made the correct conclusion but whether some reasonable basis exists in the record for

the agency=s action. Railroad Comm=n v. Pend Oreille Oil & Gas Co., 817 S.W.2d 36, 41 (Tex. 1991);

        7
          We also note that the Cities appealed the Commission=s order pursuant to PURA section 15.001,
which states that A[a]ny party to a proceeding before the commission is entitled to judicial review under the
substantial evidence rule.@ Tex. Util. Code Ann. ' 15.001 (West 1998) (emphasis added).




                                                     7
Charter Med.BDallas, Inc., 665 S.W.2d at 452. Nevertheless, even after applying a substantial evidence

standard of review, we must ensure that the actions of the Commission were not arbitrary and capricious.

Agency decisions not supported by substantial evidence are deemed to be arbitrary and capricious.

Charter Med.BDallas, Inc., 665 S.W.2d at 454.

                 In their second point of error, the Cities contend that the Commission arbitrarily and

capriciously applied a different, vague standard in denying an exemption to the municipal water

pumping customers. We will thus evaluate the Cities= second point of error under an arbitrary and

capricious standard of review, which is limited and deferential. Pedernales Elec. Co-op., Inc. v. Public

Util. Comm=n, 809 S.W.2d 332, 338 (Tex. App.CAustin 1991, no writ). Examples of Commission

conduct found to be arbitrary and capricious include: basing a decision on legally irrelevant factors or failing

to consider statutorily-mandated relevant factors in making an agency=s decision, Consumers Water, Inc.

v. Public Utility Commission, 774 S.W.2d 719, 721 (Tex. App.CAustin 1989, no writ); granting a

certificate of service to a public utility for a reason other than the statutorily defined reasons, Public Utility

Commission v. South Plains Electric Cooperative, Inc., 635 S.W.2d 954, 957 (Tex. App.CAustin

1982, writ ref=d n.r.e.); in denying a permit, relying on additional requirements Aneither expected by [the

applicant] nor proposed by the Board=s staff,@ Starr County v. Starr Industrial Services, Inc., 584

S.W.2d 352, 356 (Tex. Civ. App.CAustin 1979, writ ref=d n.r.e.).


                                                 ANALYSIS

                 In their first point of error, the Cities contend that the Commission, in violation of

PURA, unreasonably discriminated against municipal water pumping customers in the WTU


                                                        8
proceeding by not granting to them the same demand ratchet exemption that the cotton ginners

received. Through PURA, the Commission Ahas broad powers and discretion in regulating public utilities.@

Public Util. Comm=n v. GTE-Southwest, Inc., 901 S.W.2d 401, 409 (Tex. 1995). The Commission=s

construction of PURA is entitled to great weight as long as it does not contradict the plain language of the

statute. El Paso Elec. Co. v. Public Util. Comm=n, 917 S.W.2d 846, 856 (Tex. App.CAustin 1995,

writ dism=d by agr.).

                 PURA gives the Commission the authority to set transmission and distribution utility rates.

See Tex. Util. Code Ann. ' 39.201 (West Supp. 2003). In setting these rates, the Commission may not


        (1) grant an unreasonable preference or advantage concerning rates to a person in a
            classification;

        (2) subject a person in a classification to an unreasonable prejudice or disadvantage
            concerning rates; or

        (3) establish or maintain an unreasonable difference concerning rates between localities or
            between classes of service.


Id. ' 36.003(c); see Amtel Communications, Inc. v. Public Util. Comm=n, 687 S.W.2d 95, 101 (Tex.

App.CAustin 1985, no writ). Some differentiation in treatment may be warranted in some circumstances.

See City of El Paso v. Public Util. Comm=n, 839 S.W.2d 895, 932-33 (Tex. App.CAustin 1992), aff=d

in part, rev=d in part on other grounds, 883 S.W.2d 179 (Tex. 1994) (Commission=s assignment of

university to a different rate class than city and county not an abuse of discretion, because university failed to

prove similar load characteristics). In those instances, unequal treatment neither violates PURA nor

invalidates an agency action. Amtel, 687 S.W.2d at 101. The burden of proving unreasonable

                                                        9
discrimination is on the party asserting the claim. AT & T Communications of the Southwest, Inc. v.

Public Util. Comm=n, 906 S.W.2d 209, 213-14 n.7 (Tex. App.CAustin 1995, writ denied). It is not

enough for a claimant to show that the difference in rates results in unequal treatment. Amtel, 687 S.W.2d

at 103.

                If the Commission sets different rates for customers who are similarly situated, it must base

its disparate treatment on substantial and reasonable differences between the customers. AT & T

Communications, 906 S.W.2d at 213-14 n.7; Amtel, 687 S.W.2d at 102. Factors for distinctions

between customers include quantity of service received, different characteristics of service, time of use, Aor

any other matter which presents a substantial difference as a ground of distinction.@ Amtel, 687 S.W.2d at

102 (quoting Caldwell v. City of Abilene, 260 S.W.2d 712, 714 (Tex. Civ. App.CEastland 1953, writ

ref=d)). Whether the differences are reasonable is a fact determination, and the burden of proof is on the

complaining party. Id. (citing Ford v. Rio Grande Valley Gas Co., 174 S.W.2d 479, 480 (Tex. 1943)).

                The Cities do not challenge the eighty percent demand ratchet or the Commission=s

grant of an exemption from the ratchet to the cotton ginners in the generic proceeding. The Cities

instead urge that, based on WTU data concerning electrical demands and headroom, the municipal

water pumping customers deserve the same exemption in the WTU proceeding because they are

similarly situated to the cotton ginners. They then contend that the Commission=s unequal rate

treatment of the two groups was unjustified because the Commission failed to identify substantial

differences between the groups. We disagree. Even assuming that the groups are similarly situated, we

find substantial evidence of a Asubstantial and reasonable difference@ between the groups, which

justifies the unequal rate treatment.

                                                     10
                We begin by dismissing the Cities= claim that, because they are in the same customer

classification, the municipal water pumping customers should receive the same treatment as cotton

ginners. To the contrary, utility rates may vary within a classification of customers if the variations are

reasonable. See Tex. Util. Code Ann. ' 36.003(c)(1); Amtel, 687 S.W.2d at 101-02.

                The Cities contend that the similarities in demand data demonstrate that the cotton

ginners and municipal water pumpers are similarly situated. For example, the cotton ginners= expert

witness testified that the demand ratchet would double or triple cotton ginners= transmission and

distribution rates. Imposing a demand ratchet on the cotton ginners would result Ain a complete loss

of headroom@ and deprive them Aof the benefits of competition.@ The Cities= expert witness testified

similarly that A[c]ustomers with demands that vary month to month will experience an increase in the

demand for which they are billed@; one municipal water pumping customerCwhich Amay be an

extreme example@Cwould pay 870 percent more for transmission and distribution rates with the

imposition of an 80 percent demand ratchet. The demand ratchet would thus result in a 414 percent

billing demand increase in WTU=s transmission and distribution rates for municipal water pumping

customers.

                But the records in both the generic proceeding and the WTU proceeding show a

substantial and reasonable difference between the two groups of customers. It is undisputed that the

cotton ginners use large amounts of electricity for sixty to ninety days per year, with little or no use for

the rest of the year. The principal cause of their rate increase would be demand-based billing for

partial months of high demand or months in which they had little or no electrical demand. On the




                                                    11
other hand, although the water pumpers= electrical demand fluctuates somewhat, especially during dry

summers, they have large electrical demand throughout the year.

                The goal of the generic proceeding was to establish generic transmission and

distribution rates, with Auniform rate designs and customer classifications . . . appropriate and necessary to

achieve this goal.@ Therefore, a customer had to demonstrate Aextraordinary headroom concerns@ to be

exempt from the uniform rate design.             But demonstration of reduced headroom does not

Aautomatically mandate the granting of an exception.@ In determining whether to grant an

exemption from the uniform rates, the Commission could compare a variety of distinctions between

the customers, including differences in the time of use Aor any other matter which presents a substantial

difference as a ground of distinction.@ Amtel, 687 S.W.2d at 102 (quoting Caldwell, 260 S.W.2d at 714).

In the generic proceeding, the Commission determined that because the cotton ginners= time of use

would be only for sixty to ninety days per year, the demand ratchet would unfairly bill cotton ginners

for partial months of high demand or for months when they had little or no electrical demand. The

municipal water pumping customers did not demonstrate such unique circumstances in the WTU

proceeding, instead showing that they had higher electrical demand in the summer but not the

extreme fluctuations in demand that the cotton ginners demonstrated. WTU=s expert testified that

because utilities base rate designs Aon an average basis,@ customers with variable demands will more

likely experience headroom concerns. The Commission gave notice to the Cities in the generic

proceeding that merely showing headroom concerns would not Aautomatically mandate the granting

of an exception.@




                                                     12
                The Commission could have reasonably held that high electrical demand for only sixty

to ninety days as compared with fluctuating electrical demand throughout the year qualifies as a

Asubstantial and reasonable@ difference that justifies disparate rate treatment. Id. The Commission=s

decision in the WTU proceeding not to exempt municipal water pumping customers from the

demand ratchet was not an Aunreasonable preference or advantage concerning rates@ to the cotton

ginners. Tex. Util. Code Ann. ' 36.003. Therefore, we overrule the Cities= first point of error.

                In their second point of error, the Cities assert that the Commission arbitrarily and

capriciously applied a different, vague standard to the municipal water pumping customers= request for

an exemption from the demand ratchet. Under this limited and deferential standard of review, we

find that the Commission did not act arbitrarily or capriciously. See Pedernales Elec. Co-op., 809 S.W.2d

at 338. PURA grants the Commission considerable discretion in deciding rate design issues. Texas Alarm

& Signal Ass=n v. Public Util. Comm=n, 603 S.W.2d 766, 772 (Tex. 1980). As long as the Commission

addresses the rate considerations set forth in PURA, the particular factors and the weight to be given those

factors are within the Commission=s discretion. Id. at 772-73; AT & T Communications, 777 S.W.2d at

366. Under PURA section 39.003, the Commission may set differing rates as long as the rates are not

unreasonably discriminatory. See Texas Alarm & Signal, 603 S.W.2d at 770. Further, the Commission

may consider a variety of factors in making rate design decisions. See id. at 772.

                The Cities focus on the similarity of electrical demands and headroom concerns,

arguing that these similarities require the Commission to grant municipal water pumping customers

the same demand ratchet exemption that the cotton ginners received. But the Commission granted

an exemption to the cotton ginners because they had Ahighly variable usage patterns within the year@

                                                    13
which were Aunique.@8 The municipal water pumping customers= constant demand throughout the

year, albeit with an increased demand in the summer, did not equate with the cotton ginners= large

electrical demands for a short period, followed by months of little or no demand.

               The Cities further contend that Aextraordinary headroom concerns@ was a new standard,

applied after the cotton ginners received an exemption. The cotton ginners demonstrated extraordinary

headroom concerns in the generic proceeding, and we find no evidence in the record that the

Commission applied a Adifferent, vague standard@ to the municipal water pumping customers in the

WTU proceeding. The Commission followed the rate considerations set forth in PURA and acted

within its considerable discretion in granting the exemption only to the cotton ginners. Texas Alarm

& Signal, 603 S.W.2d at 772-73; AT & T Communications, 777 S.W.2d at 366. Therefore, we hold

that the Commission did not act arbitrarily or capriciously in its determination that a demand ratchet

exemption for the municipal water pumping customers was Anot warranted on the basis of

extraordinary headroom concerns.@ We overrule the Cities= second point of error.


                                          CONCLUSION

               We hold that the Commission=s decision in the WTU proceeding not to expand the

eighty percent demand ratchet exemption for seasonal agricultural customers to include municipal

water pumping customers was not an Aunreasonable preference or advantage concerning rates.@ Tex.



       8
         The principal definition of Aunique@ is Athe only one,@ synonymous with Asole.@ Webster=s Third
New International Dictionary 2500 (1986).




                                                  14
Util. Code Ann. ' 36.003. The Commission grounded its decision in a Asubstantial and reasonable@

difference between the two customers and thus did not unreasonably discriminate against the

municipal water pumping customers. Amtel, 687 S.W.2d at 102. We further hold that the

Commission, by following the rate considerations set forth in PURA, did not act in an arbitrary and

capricious manner in granting the exemption to one customer but not another. Having overruled the

Cities= points of error, we affirm the judgment of the district court.




                                                __________________________________________

                                                Jan P. Patterson, Justice

Before Justices Kidd, Patterson and Puryear

Affirmed

Filed: February 27, 2003




                                                   15
