On certification to the Superior Court, Appellate Division.
For modification and affirmance -- Chief Justice Wilentz, and Justices Clifford, Handler, Pollock, Garibaldi and Stein. For reversal -- Justice O'Hern. The opinion of the Court was delivered by Garibaldi, J. O'Hern, Justice, dissenting.
[115 NJ Page 128] Pursuant to N.J.S.A. 40:62-108 to -150.2 (the enabling statute), the cities of Paterson, Passaic, and Clifton (the owner-cities) on February 3, 1931, entered into an agreement to form
the Passaic Valley Water Commission (PVWC), a municipally-owned-and-operated water company. On April 9, 1986, PVWC adopted a resolution authorizing it to distribute $500,000 of "surplus" funds to its three owner-cities in accordance with paragraph 13 of the February 3, 1931, Agreement (the 1931 Agreement). Whether PVWC's distribution of "surplus" funds to its owner-cities is authorized under the enabling statute is the primary appealable issue. We hold that PVWC's distribution is not authorized.
Prior to 1921 the residents of the owner-cities received most of their water from Passaic Consolidated Water Company, a private water company. In 1930 the owner-cities formed PVWC to acquire the Passaic Consolidated Water Company pursuant to N.J.S.A. 40:62-109, which provides in relevant part:
for the appointment of a commission to acquire by purchase or condemnation such waterworks with all rights and franchises relating thereto, and the rights and franchises to obtain an additional supply of water, and any or all other property of the owner of such waterworks as may be necessary to maintain, operate, enlarge or extend the waterworks so acquired, and to enlarge, extend, maintain and operate the same to supply water in the municipalities acquiring such waterworks as aforesaid and all other municipalities theretofore supplied with water by said waterworks.
The 1931 Agreement sets forth the general operating rules of PVWC. In accordance with the terms of the 1931 Agreement, PVWC is governed by four commissioners selected by the three cities under terms set out in the Agreement. Two representatives from Paterson sit on the PVWC, in addition to one each from Passaic and Clifton. All four members constitute a quorum for meetings, while the affirmative vote of three is required to adopt any motion or resolution. Consistent with N.J.S.A. 40:62-129, Paragraph 19 of the Agreement also provides that it may be amended from time to time by the assent of the governing bodies of the cities containing at least two thirds of the population of all the cities as measured by the last national census.
Specifically, at issue in the instant case is paragraph 13 of the 1931 Agreement, which provides:
Reports shall be made to the respective cities quarterly on the first days of each March, June, September, and December in each year which shall contain a detailed statement of the operation of the waterworks and any other information of value to the cities. The Commission shall transmit all moneys in their hands acquired from such operation beyond what is necessary to meet its obligations, to the TREASURER of the respective Cities in proportion to their ownership in said water works, that is to say, in the proportion that the assessed valuation for taxation of all real estate of each of said cities for the year Nineteen Hundred and Twenty-Nine, bears to the total assessed valuation for said year of all the real estate in all said cities. (Emphasis added).
PVWC is the fiscal agent for its three owner-cities, Passaic, Paterson, and Clifton. N.J.S.A. 40:62-122. The owners of property located in each of the cities to which PVWC supplies water are billed directly, and their bills constitute a lien against their property. Additionally, pursuant to N.J.S.A. 40:62-127, PVWC sells water to twenty non-owner municipalities on a wholesale basis, who in turn own and maintain their water distribution systems and bill their customers directly. In 1985 34% of all water sold by PVWC went to non-owner cities, and in 1986 this figure rose to 36 1/2%. The owner-cities have not had to expend any money to finance the acquisition, operation, maintenance, or enlargement of the waterworks. PVWC has paid these costs from revenues.
No distributions to the owner-cities were made during the first twenty years that PVWC existed; thereafter distributions were made from 1952 to 1986 as follows:
On April 9, 1986, PVWC, by a 3-1 vote, approved a Resolution authorizing the December 1986 distribution of $500,000 of "surplus" funds to the three owner-cities pursuant to the terms
contained in paragraph 13 of the 1931 Agreement. Clifton's representative opposed the Resolution, which reads in part as follows:
WHEREAS, the governing bodies of the Cities of Paterson, Passaic and Clifton have entered into an agreement pursuant to N.J.S.A. 40:62-129 for the operation of said waterworks, which provides among other things that Passaic Valley Water Commission shall transmit all monies in its hands from operations beyond what is necessary to meet its obligations, to the Treasurer of the respective Cities in proportion to their ownership in the waterwork; viz, in the proportion that the assessed valuation for taxation of all real estate of each of the said Cities for the year 1929, bears to the total assessed valuation for said year of all the real estate in all said Cities; and
WHEREAS, Passaic Valley Water Commission reasonably anticipates that there shall be a surplus in 1985 as a result of its operation of the waterworks which it operates as aforesaid;
NOW, THEN, BE IT RESOLVED that Passaic Valley Water Commission hereby reports to each of the Cities of Paterson, Passaic and Clifton that it reasonably anticipates that there will be a surplus in its hands for the year 1985 from the operation of the waterworks for which it is their fiscal agent as aforesaid, in the total amount of $500,000 which they are hereby authorized to include in their respective budgets for the year 1986 as an item of miscellaneous revenue, under the caption of "Surplus From Passaic Valley Water Commission Operating Surplus Fund" to be transmitted to the three Owner Cities in the following amounts:
Paterson 59.21% $296,050.
Although the ratio of assessed real-estate valuation among the three owner-municipalities has changed since the 1929 standard of valuation incorporated into the 1931 Agreement, the 1929 ratios were used to measure the shares of the distribution to be received by the municipalities in 1986. The 1930 populations and 1929 real property valuations of the owner-cities were:
1930 1929 Assessed Valuation
City Population of Real Property
Clifton 46,875 41,941,270
Passaic 62,959 84,331,875
Paterson 138,153 182,111,610
Thus, pursuant to paragraph 13 of the 1931 Agreement, the approximate ownership percentages for distribution purposes were fixed as follows: Paterson -- 4/7ths, Passaic -- 2/7ths, and Clifton -- 1/7th.
There have, however, been significant changes in the owner-cities, particularly the City of Clifton, over the past fifty years. Clifton, once a rural farming community, has experienced dramatic rise in population and property values, so that Clifton's population and water consumption are now substantially greater than those of Passaic. In 1986, the residents of the owner-cities consumed water in the following percentages: Paterson -- 48%, Passaic -- 20%, and Clifton -- 32%.*fn1
The instant case arose out of three consolidated actions against PVWC, all challenging the resolution distributing $500,000 from "surplus" to the three owner-cities.*fn2 The plaintiffs challenged the Resolution and paragraph 13 of the 1931 Agreement as ultra vires, violative of the "public trust," and against
sound public policy. They further challenged the PVWC's action as arbitrary, capricious, and unreasonable, inasmuch as at the time of the Resolution's adoption, the Commission had information available to it projecting significant operating losses in 1986 and 1987. Additionally, Clifton sought to declare as invalid paragraph 13 of the 1931 agreement between the owner-cities insofar as it fixed the percentage of ownership among the cities at the ratio established by the 1929 tax assessment of the municipalities.
At trial evidence was presented regarding PVWC's financial status. Both Wendell Inhoffer, General Superintendent and Chief Engineer of PVWC, and James Egan, PVWC's Comptroller and Chief Financial Officer, who worked for PVWC since 1961, testified. Additionally, reports of various consultants to PVWC were admitted into evidence.
In 1984, PVWC adopted a report submitted by a consultant, Havens & Emerson, that recommended that PVWC proceed on a five-year cycle starting in 1985. The report recommended that water rates be raised in the first two years of the cycle to generate surplus, which would be used to offset projected losses in the last two years of the cycle. The projections set forth in its report "did not contemplate a distribution of money to the owner cities." PVWC adopted the report's recommendation and began the five-year plan in 1985. It did so to avoid raising rates on an annual basis. Nevertheless, PVWC, at best, experienced only a small profit of $194,610.45 in 1985*fn3 and losses of $1,300,000. in 1986. Comptroller Egan's March 7, 1986, memorandum entitled "Allocation of 12/31/85 Current Funds," while showing available current funds in excess of $6,500,000, estimated projected budget losses of over $4,000,000 with other liability and contingent liability of almost $4,000,000.
The memorandum further projected substantial losses in 1986 and 1987.
Egan testified that the distribution of April 9, 1986, was premature under the five-year plan. He also indicated that the distributions could not have come out of "surplus" because of these operating losses. Rather, he claimed these funds came out of retained earnings and not from an amount containing a "surplus generated in 1985." Egan further testified that he never had been asked by PVWC or any of the Commissioners whether he endorsed or approved of the $500,000 distribution.
Initially, distributions of $6,000,000 and $2,000,000 were proposed. Superintendent Inhoffer testified that he opposed these distributions, but did, however, inform PVWC that he "could live with" the $500,000 distribution. Edward Routel, the Chief Financial Officer for Passaic, also agreed that there was no surplus at the end of 1985 or 1986, but was of the view that a distribution could be made without hurting PVWC because several million dollars in retained earnings were held by PVWC.
The Commissioner representing Paterson, who recommended the $2,000,000 distribution, which was rejected, requested that an independent auditor be retained to review the question of "surplus." PVWC hired Bowman & Company, which subsequently submitted a report, which stated:
if the projected $4.2 million deficit for 1986 is followed by an equally reasonable deficit of $2.1 million in 1987, such deficits will be absorbed by virtually all of the "consumable" surplus and "available" cash at December 31, 1987. However, this ...