Water as Business Taps Into Fears

The apparent breakdown of a deal between private Cadiz Inc. and the public Metropolitan Water District to build a $150-million water storage facility in the Mojave Desert raises an issue that may become more relevant to the state’s water future: What role is there for private enterprise in supplying water to the California public?

The question evokes fears of the kind of corporate profiteering and market manipulation alleged in the wake of energy deregulation in the state. If anything, privatizing water may be an even more sensitive issue, given its stature as a natural resource essential for physical, as well as economic, health.

In part because of the dangers of cutting corners on water treatment and system maintenance, public-interest advocates have long been wary of efforts to turn over public water supplies or systems to private enterprise.

“One of the things we learned in the energy deregulation debacle is not to give private companies a free hand in the management of a natural resource,” said Peter H. Gleick, president of Oakland-based Pacific Institute for Studies in Development, Environment, and Security and coauthor of a study critical of global water privatization. “Water is too important to be left solely in private hands.”

Still, many private entities are active in the water trade throughout the state--and some are planning to become more deeply involved.

Among them are owners of water rights in the river-rich north who deliver supplies to the parched south. Others are small-scale farmers who agree to fallow acreage during droughts in order to divert irrigation water to cities and suburbs. And some view the state’s geographic imbalance of supply and demand as a long-term commercial opportunity.

In the Sacramento-San Joaquin Delta, for example, a real estate venture between two life insurance companies--Zurich Financial Services and Kemper Insurance Cos.--is proposing to build reservoirs on two marshy islands to hold surplus floodwater for release during dry periods. Layne Christensen Co., a Mission Woods, Kan.-based mineral, energy and water company, is expanding water storage facilities in Kern County that already are under contract to provide dry-year supply to the MWD.

But many other private entities have been lured by visions of riches to be made in the business of moving around water supplies within the state--only to be crushed in a bureaucratic and political wringer.

“A lot of companies trying to move water across the delta have not been successful because it’s complicated,” said Jerry Johns, water transfer chief for the California Resources Agency. “It requires a lot of overhead. The physical issues are hard. Water rights are complicated. If your business plan is moving water from north to south, you should be prepared to spend a lot of time working out how that’s done.”

As a commodity, water is protected by a shield of regulation, tradition and emotion that can turn even the determination of who owns the right to use water under what conditions into a forbiddingly complex task. These complexities have blindsided some of the country’s most sophisticated private investors, leading to some spectacular missteps in recent California history.

In the mid-1990s, the wealthy Bass brothers of Texas bought up 30,000 acres of farmland in the Imperial Valley, hoping to profit from the spread between the $12.50-per-acre-foot price they paid for Colorado River water as farmers and the $250 that San Diego would pay them to divert it as urban supply. Too late, the Bass family discovered that the water rights did not belong to them as landowners but in trust to the Imperial Irrigation District, which opposed the Bass sale. (The Bass family still made a profit in the Imperial Valley. Meanwhile, the district moved to strike its own deal--still under negotiation--with San Diego.)

Three years ago Azurix, a water-trading subsidiary of Enron Corp., paid $31 million for a 13,000-acre ranch in Madera County, in the heart of the San Joaquin Valley farming region. The idea was to allow customers to store as much as 400,000 acre-feet of water in an aquifer under the ranch, extracting it in dry periods as needed. Local farmers viewed the proposal as a pretext for stealing their natural water supply. (An acre-foot is about 325,000 gallons--enough water to meet the needs of two average households for a year.)

“The Azurix project was perceived as a threat, as a means of taking our water and sending it away to the highest bidder,” recalled Kole Upton, a pistachio and almond farmer who headed a local water users’ group opposed to the project. The Madera County Board of Supervisors eventually passed an ordinance requiring their consent to any water transfers out of the district. Azurix later disintegrated in the Enron bankruptcy. A unit of Layne Christensen has since taken over the property.

“The movement to treat water as a commodity is always resented in agricultural communities,” Upton said, “because we farmers can’t afford to pay what the MWD can.”

Cadiz also ran afoul of bureaucratic obstacles and changing hydrological conditions in its campaign to build a $150-million facility to store surplus Colorado River water under company-owned land in the Mojave Desert in partnership with the MWD.

The company’s plan to extract as much as 1.5 million acre-feet of water from a natural aquifer provoked environmentalists, who contended that extraction on that scale would threaten the desert ecosystem. At the same time, drought on the Colorado made the availability of water to fill the storage site doubtful. And the high profile of Cadiz Chairman and Chief Executive Keith Brackpool, a confidant of Gov. Gray Davis, placed the entire project under the political spotlight. Last week, MWD officials said they would advise the district board to defer the project indefinitely.

Promoters of large-scale water deals know that public passions and political scrutiny come with the territory.

“Opposition to water transfers is extraordinarily emotional, and it evolves into a theological issue,” said Ric Davidge, head of World Water, an Alaska company proposing to tap two Northern California rivers and ship the water to Southern California in enormous floating plastic bags. “Interest groups that take exception to ‘privatizing’ water as a commodity are misinformed. Water has been a commodity since water and money existed. What’s new is the emergence of public entities in control of it as a resource and a commodity.”

Some would-be marketers of water say those public agencies exploit local resentments to maintain their political stranglehold on the state’s most valuable resource.

“Those who wish to maintain control of water prey on fears of transfers,” said Michael P. George, chairman and chief executive of Point Richmond, Calif.-based Western Water Co., which has been trying for years to find a way to profitably sell to the south some 200,000 acre-feet of Northern California water to which it holds historical rights. George says he has faced relentless resistance from public water agencies reluctant to give up what he characterizes as subsidized monopolies.

“Our efforts to organize efficient, cost-effective transfers have been stymied by the fact that there is no process by which you can gain approval for a transfer,” he said. “There are myriad processes by which you can be told no, asked for more information or asked to provide money for studies, but no way you can get to a yes.”

George has been battling the MWD over differing interpretations of the “fair compensation” that state law says he must pay the district for sending water south via its pipelines and aqueducts. He argues that because the transmission capacity he would use would be otherwise idle, the MWD should charge him only a nominal rate. The MWD, for its part, argues that Western Water should pay the same transmission rate of $154 per acre-foot charged to all its other customers, which include member water agencies. With that fee added to its own costs, Western Water would be hard-pressed to turn a profit.

MWD officials say that’s as it should be, in part because the district has an obligation to provide guaranteed supply to the 17 million residents within its jurisdiction.

The MWD’s traditional sources of water, such as the Colorado River system, are relatively cheap, largely because the MWD and its member districts helped finance the construction of Hoover Dam more than 70 years ago. They would be reluctant to cede the financial benefits of their claim to the cheap water by selling their capacity to Western Water at a preferred rate, says MWD Chief Executive Ronald R. Gastelum.

Eventually, Gastelum acknowledges, the water scene will change. As demand in Southern California grows, the MWD will be forced to turn to more costly supplies--desalinated water, for example, or supplies purchased on the spot market. Such conditions, which are imminent, will give independent suppliers such as Western Water a window to undercut the huge district’s embedded costs.

“I don’t think they can compete with us by trying to meet our existing demand,” Gastelum said. “But as we develop new supplies, they will be able to compete.”

Until then, however, the market’s outside suppliers will continue to face daunting obstacles.

“Michael George’s business plan is premised on an economic theory that doesn’t account for the political reality that no one wants to let him have a cheap ride for his private interest,” Gastelum said.