The commission vote will slightly decrease the profit margins of Edison and three other big utilities beginning next year. Edison’s rate will fall to 10.03% from 10.3%.

Customers will see little impact in their bills from the decision. Because the utilities are continuing to spend more on wires and other infrastructure — capital costs that they earn profit on — that portion of customer bills is expected to continue to rise.

The vote angered consumer groups that had detailed in filings and hearings at the commission how the utilities’ return on equity — which sets the profit rate that the companies’ shareholders receive — had long been too high.

Among those testifying on behalf of consumers was Mark Ellis, the former chief economist for Sempra, the parent company of San Diego Gas & Electric and Southern California Gas. Ellis estimated that the companies’ profit margin should be closer to 6%.

He argued in a filing that the California commission had for years authorized the utilities to earn an excessive return on equity, resulting in an “unnecessary and unearned wealth transfer” from customers to the companies.

Cutting the return on equity to a little more than 6% would give Edison, Pacific Gas & Electric, SDG&E and SoCalGas a fair return, Ellis said, while saving their customers $6.1 billion a year.

The four commissioners who voted to keep the return on equity at about 10% — the percentage varies slightly for each company — said they believed they had found a balance between the 11% or higher rate that the four utilities had requested and the affordability concerns of utility customers.

Alice Reynolds, the commission’s president, said before the vote that she believed the decision “accurately reflects the evidence.”

Commissioner Darcie Houck disagreed and voted against the proposal. In her remarks, she detailed how California ratepayers were struggling to pay their bills.

“We have a duty to consider the consumer interest in determining what is a just and reasonable rate,” she said.

Consumer groups criticized the commission’s vote.

“For too long, utility companies have been extracting unreasonable profits from Californians just trying to heat or cool their homes or keep the lights on,” said Jenn Engstrom at CALPIRG. “As long as CPUC allows such lofty rates of return, it incentivizes power companies to overspend, increasing energy bills for everyone.”

California now has the nation’s second-highest electric rates after Hawaii.

Edison’s electric rates have risen by more than 40% in the last three years, according to a November analysis by the commission’s Public Advocates Office. More than 830,000 Edison customers are behind in paying their electric bills, the office said, each owing a balance of $835 on average.

The commission’s vote Thursday was in response to a March request from Edison and the three other big for-profit utilities. The companies pointed to the January wildfires in Los Angeles County, saying they needed to provide their shareholders with more profit to get them to continue to invest in their stock because of the threat of utility-caused fires in California.

In its filing, Edison asked for a return on equity of 11.75%, saying that it faced “elevated business risks,” including “the risk of extreme wildfires.”

The company told the commission that its stock had declined after the Jan. 7 Eaton fire and it needed the higher return on equity to attract investors to provide it with money for “wildfire mitigation and supporting California’s clean energy transition.”

Edison is facing hundreds of lawsuits filed by victims of the fire, which killed 19 people and destroyed thousands of homes in Altadena. The company has said the fire may have been sparked by its 100-year-old transmission line in Eaton Canyon, which it kept in place even though it hadn’t served customers since 1971.

Return on equity is crucial for utilities because it determines how much they and their shareholders earn each year on the electric lines, substations, pipelines and the rest of the system they build to serve customers.

Under the state’s system for setting electric rates, investors provide part of the money needed to build the infrastructure and then earn an annual return on that investment over the assets’ life, which can be 30 or 40 years.

In a January report, state legislative analyst Gabriel Petek detailed how electric rates at Edison and the state’s two other biggest investor-owned electric utilities were 50% higher than those charged by public utilities such as the Los Angeles Department of Water and Power. The public utilities don’t have investors or charge customers extra for profit.

Before the vote, dozens of utility customers from across the state wrote to the commission’s five members, who were appointed by Gov. Gavin Newsom, asking them to lower the utilities’ return on equity.

“A profit margin of 10% on infrastructure improvements is far too high and will only continue to increase the cost of living in California,” wrote James Ward, a Rancho Santa Margarita resident. “I just wish I could get a guaranteed profit margin of 10% on my investments.”

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The “crisis” in California’s insurance market was caused by “a laser focus only on affordability,” said Nancy Watkins, a principal at Milliman, an actuarial firm, at a legislative hearing on Wednesday.  The companies are operating with “very crude tools” at the expense of availability and reliability, she said.

She said the current regulatory system is too rigid. “It’s like you’ve got your steering wheel locked straight ahead, you’ve got your speed set on cruise control, and now you find yourself on the Pacific Coast Highway,” she said. “What insurance company would agree to that?”

Home insurance premiums in California are a little cheaper than the national average — and much lower than premiums in other disaster-prone states like Florida and Louisiana. That’s without accounting for the fact that California has some of the most expensive housing in the country. 

California still has about 115 companies offering home insurance, said Michael Soller, a deputy commissioner for the state’s insurance department. As for whether more companies are likely to follow State Farm and Allstate, “we don’t think that will happen,” he said

Consumer and insurance industry groups and other experts have ideas for what they’d like to see California do in the wake of the news — few of which they agree upon. Here’s the debate over four of those ideas. 

Require State Farm to keep issuing new policies

There’s disagreement whether this idea, backed by the group Consumer Watchdog, is legal.

The idea hinges on how insurance prices are regulated in California. Under current laws, insurance companies can’t just charge whatever they want: They have to submit their proposed rates to the insurance department, which they back up by explaining their projected costs, losses, revenue and more. State regulators can approve a company’s proposed rates, or deny them, if they think, for example, the rates are unjustifiably high, or so low that they could put the company’s finances at risk.

Harvey Rosenfield, founder of Consumer Watchdog, said if a company suddenly says that it’s not going to take the same number of customers that it had projected when it got the department’s approval, then it has changed the assumptions on which the approval was based. 

“They granted themselves a de facto rate increase by reducing the risk” in a state where that’s illegal, said Rosenfield. The department could issue a notice to State Farm, he said, and tell the company it needs to keep selling new home insurance policies until it submits new rates and those rates are approved. 

The insurance department disputes that it has the power to do this. “Their claims are not supported by law,” said Soller, the deputy commissioner. “There’s a reason why it hasn’t been done by any insurance commissioner before.”

Let insurance companies use forward-looking catastrophe models

The kinds of data and statistical models insurance companies can use to set prices may sound like a nighttime sleep aid, but it’s a matter of lively discussion in insurance circles. 

When a company tries to justify rate changes, it is required to rely on past losses to project future losses. It can’t use factors like the locations of new homes it is covering — whether they’re in downtown San Francisco or rural wine country — or the increased risk of wildfires due to climate change.

“We do it in a very old-fashioned way, and it needs to be updated,” said Rex Frazier, president of the Personal Insurance Federation of California, an insurance industry group that counts State Farm as a member. He supports the use of forward-looking models, which are generally provided by other private companies. California already permits insurers to use models for earthquake insurance. 

If a company is trying to figure out how much it should charge for earthquake coverage, it would look at proximity to fault lines, Frazier said, but for wildfire insurance, California doesn’t do that. 

“For wildfire it just says ‘Well, looking backward, what have you paid over the last 20 years for wildfire clients?’” he said. 

Consumer groups generally oppose letting insurance companies use models, fearing that companies will use them to justify extreme price hikes, and that complex math will make scrutiny a challenge.

“They’re just very sophisticated crystal balls,” said Amy Bach, executive director for United Policyholders, a consumer group. Modeling companies generally see their models as intellectual property, which can pose a challenge for transparency. “Our fear is that they overstate risk,” said Bach. 

About a week and a half after State Farm’s announcement, the insurance department said it would host a public workshop on use of models in insurance pricing, ahead of considering regulations. The workshop will take place on July 13. 

On Wednesday, the Assembly’s insurance committee held a hearing on models. When asked by a legislator whether the department was moving toward incorporating catastrophe models, a department representative confirmed that it was. 

“Historic losses do not fully account for growing wildfire risks, or risk mitigation measures taken by communities,” said Michael Peterson, a deputy commissioner at the insurance department, during the hearing.

Address the increasing cost of insurance — for insurance companies

Insurance companies are just like us: They buy insurance! When insurance companies buy it, it’s called “reinsurance.” 

The cost of reinsurance has risen dramatically, and State Farm cited “a challenging reinsurance market” as one of the reasons it decided to stop selling new home insurance policies in California. 

When insurance companies explain their costs to the insurance department as part of the process for justifying their prices, they aren’t allowed to include the cost of reinsurance. The department hasn’t historically permitted it, Soller said, because it doesn’t regulate reinsurance. 

“What are insurers supposed to do when, on the one hand, the Department of Insurance is telling them ‘maintain your solvency’ and then, on the other hand, when their costs go up, you can’t charge for it,” said Frazier.

Insurance industry groups say it would help if they could incorporate the cost of reinsurance into their prices. But consumer groups say that the move would cause premiums to spike. 

“Californians would see immediate massive rate hikes — both as soon as that went into effect and ongoing,” said Carmen Balber executive director of Consumer Watchdog. A reinsurance provider regulated by California would address problems she sees with the reinsurance market, Balber said, but that doesn’t exist currently.

Reduce the risk of disasters

The underlying problem is that disasters happen in California — at an increasing rate thanks to climate change — and that homes are at risk. They’re in the middle of the woods, or surrounded by flammable grasslands, or on the edge of bluffs that are expected to erode. Making homes less likely to burn, flood or collapse would be good for homeowners and would also make California feel less risky to insurers.

There’s no shortage of ideas for how to reduce risk, and there’s been action on this front in recent years. The insurance department, for example, has required insurance companies to consider whether homeowners take certain steps to protect their homes — like installing fire-resistant vents and clearing out vegetation under decks — in their prices.

California has set aside $2.7 billion for wildfire resilience over the past three years, according to the insurance department. When the department convened a group of environmental advocates, researchers, and public policy and insurance experts to make recommendations on how to reduce the risks of climate change, they came up with a long list. Among the recommendations: 

• Create statewide hazard maps so that future risks are more clear to the public 
• Increase funding to retrofit homes 
• And apply fire-resistant building codes in areas with moderate to higher fire risk.

Cutting greenhouse gas emissions would ultimately be the best way to reduce the risk, said Alice Hill, chair of the group convened by the department and a senior fellow for energy and the environment at the Council on Foreign Relations. But the world will get warmer even if we reduce emissions, she said, so focusing on where and how homes are built remains important.

“That could mean not building in areas that are just becoming too risky,” Hill said.

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