United States District Court, M.D. Pennsylvania
Christopher C. Conner, Chief Judge
Middletown Borough (“the Borough”) commenced this
action seeking reformation of its water and sewer services
contract with defendant Middletown Water Joint Venture LLC
(“Middletown Water”). The Borough moves the court
to preliminarily enjoin imposition of a service charge on its
residents pending the outcome of this litigation and a
related arbitration proceeding.
Borough commenced this action with the filing of a verified
complaint in the Court of Common Pleas for Dauphin County,
Pennsylvania. In its complaint, the Borough seeks reformation
of the parties' lease agreement governing operation of
the Borough's water and sewer system. It asserts that the
lease agreement's water sales shortfall provisions do not
accurately reflect the intent of the parties at the time of
contracting. The Borough seeks preliminary injunctive relief
pending resolution of its contract reformation claim and the
parties' related arbitration proceeding. Middletown Water
timely removed the case to federal court.
court convened a preliminary injunction hearing on May 22,
2018, taking evidence in the form of documentary exhibits and
witness testimony. The parties filed proposed findings of
fact and conclusions of law in support of their respective
positions subsequent to the hearing. With briefing concluded
and the record closed, the Borough's motion for
preliminary injunction is ripe for disposition. Following the
close of the preliminary injunction record, Middletown Water
moved to dismiss the Borough's complaint pursuant to
Federal Rule of Civil Procedure 12(b)(6). The Borough then
filed an amended complaint.
Findings of Fact
Water is a joint venture comprising SUEZ Water Environmental
Services Inc. (“SUEZ”) and Argo Infrastructure
Partners. (Correll Aff. ¶ 9). SUEZ serves as
operator of the wastewater utility system and water plant and
distribution system for the Middletown Water
project. (Id.; see M.W. Ex. 1 at
49). The Borough and Middletown Water executed a Municipal
Water and Wastewater Utility System Concession and Lease
Agreement (“lease agreement”) naming Middletown
Water as concessionaire on September 30, 2014. (M.W. Ex. 1).
Article 7 of the lease agreement governs imposition of
service charges for water and sewer services. (Id.
lease agreement prohibits Middletown Water from increasing
water and sewer rates prior to January 2019, absent Borough
approval, and establishes caps on rate increases permitted
thereafter. (Id. at 76-77). Section 7.1(l )
sets forth one of several exceptions to this prohibition on
rate increases and reads as follows:
(1) Demand Shortfall Recovery. [Middletown Water]
may also impose upon all Retail Water Customers and Retail
Sewer Customers a Service Charge in any Demand Shortfall
Recovery Year to recover the Annual Shortfall Recovery Amount
that may be recovered in that Demand Shortfall Recovery Year,
which Service Charge shall be in addition to the Service
Charges otherwise imposed under Section 7.1.
(Id. at 76, 78). A demand shortfall recovery year is
any of the three years following the final year of a
three-year rolling test period-beginning with calendar years
2015-2017-in which there is a water sales shortfall.
(Id. at 11, 29). A water sales shortfall occurs when
the sum in gallons of (1) “the actual average daily
volume of metered water sales to all Retail Water
Customers” over a three-year test period, and (2) the
bulk sales surplus over the three-year test period, is less
than 639, 340 gallons per day. (Id.) A bulk sales
surplus is the amount in gallons per day that the
“actual average daily volume of metered water sales to
all [Middletown bulk customers]” over a three-year test
period exceeds 62, 970 gallons. (Id. at 6).
water sales shortfall occurs, Middletown Water may impose a
service charge to recover the annual shortfall recovery
amount. (Id. at 25, 78). The annual shortfall
recovery amount is one-third of the shortfall recovery amount
for a three-year period. (Id. at 4). The water sales
shortfall, expressed in gallons per day, is used to calculate
the three-year shortfall recovery amount. (Id. at
25). The instant litigation arises out of Middletown
Water's invocation of the demand shortfall recovery
exception to the lease agreement's restrictions on rate
Bidding and Contract Negotiations
Borough participated in Pennsylvania's Early Intervention
Program in 2013, which “assist[s] municipalities in
addressing long-term financial, operational and economic
development issues.” (M.W. Ex. 8 at 1; M.W. Ex. 14 at
4). At the time, the Borough grappled with, inter
alia, a budget deficit of $3.3 million in its general
fund and tens of millions of dollars in unfunded pension
liabilities. (M.W. Ex. 8 at 1-2; M.W. Ex. 14 at 13; Tr.
34:3-16, 66:20-67:18). Susquehanna Group Advisors, Inc.
(“Susquehanna”) financially advised the Borough
during its participation in the Early Intervention Program.
(See M.W. Exs. 8, 14). Susquehanna recommended
leasing the Borough's water and sewer system as part of a
multi-year plan to address these fiscal issues. (Kapenstein
Aff. ¶ 4; see M.W. Ex. 8 at 1; M.W. Ex. 14 at
33; Tr. 34:7-16, 67:19-68:4). The Borough agreed and town
councilman Benjamin Kapenstein (“Councilman
Kapenstein”) supported exploration of leasing the
system. (M.W. Ex. 8 at 1).
Borough engaged the law firm McNees Wallace & Nurick LLC
(“McNees”) to administer a competitive
procurement process. (Tr. 30:11-14, 34:21-23, 43:23-44:12;
Kapenstein Aff. ¶ 5). McNees solicited proposals and
made a preliminary draft lease agreement available to
prospective bidders in an online data room on June 13, 2014.
(Tr. 38:12-20; Correll Aff. ¶ 13; Kapenstein Aff.
¶¶ 5, 14; M.W. Ex. 7 at 5). It modeled the draft
lease agreement on a similar contract executed by the City of
Allentown, Pennsylvania, a transaction in which McNees was
“heavily involved.” (Tr. 60:10-14; Correll Aff.
¶ 12; Kapenstein Aff. ¶ 5). Over the summer months,
three qualified prospective bidders submitted comments to the
Borough on multiple iterations of the draft lease agreement.
(Correll Aff. ¶ 14; Kapenstein Aff. ¶ 6; M.W. Ex. 7
draft language set the water sales shortfall threshold at
480, 000 gallons per day, or approximately 75% of 2013
average daily volume sales to all consumers. (Kapenstein
¶ 15; M.W. Ex. 2 at 6). On August 27, 2014, SUEZ asked
the Borough to increase the threshold to 608, 000 gallons per
day, or approximately 95% of the 2013 total sales.
(Kapenstein ¶ 16). The following day, a second
prospective bidder sought to increase the threshold to 577,
225 gallons per day. (Id. ¶ 17). SUEZ submitted
redlined edits to the lease agreement to McNees by email
dated September 3, 2014. (M.W. Ex. 2). Therein, SUEZ edited
the shortfall recovery amount to include retail sewer
customers and altered the water sales shortfall formula to
measure the “actual average daily volume of metered
water sales to all Retail Water Customers, ” plus any
bulk sales surplus, against “100% of 2013 Average
Daily Volume sales to all Customers.” (Id. at
attorney Michael Jarman (“Attorney Jarman”)
responded that “2013 was an abnormal year.”
(Id. at 2). SUEZ stated that it “[could not]
accept undue risk on volume” and encouraged Attorney
Jarman to “explain the issue to [his] client.”
(Id. at 1; see also Tr. 94:3-7). On
September 3, 2014, the Borough incorporated SUEZ's
proposed changes, sent earlier that same day, and circulated
a “Final Draft” lease agreement and accompanying
memorandum. (Tr. 44:13-24; Correll Aff. ¶¶ 16-17;
Kapenstein Aff. ¶ 21; see also M.W. Ex. 2 at
1). The memorandum described alterations to the shortfall
recovery amount and water sales shortfall provisions as
“substantial changes to the economic terms of the
[lease agreement].” (M.W. Ex. 3 at 2-3). Middletown
Water submitted the sole bid on the final draft lease
agreement in late September 2014. (See Correll Aff.
¶ 18; Kapenstein Aff. ¶ 25).
town council meeting on September 29, 2014, Councilman
Kapenstein made a comprehensive presentation on contract
negotiations, the bid process, and the final draft lease
agreement. (M.W. Ex. 8 at 2-3). He poignantly noted that the
Borough could execute the lease agreement with Middletown
Water or raise electric rates or taxes as much as 37% to
address the Borough's financial challenges. (Id.
at 2; Tr. 42:21-43:4, 68:5-69:2, 73:8-17). In supporting
execution of the lease agreement, Councilman Kapenstein
represented that he had done “the necessary due
diligence.” (M.W. Ex. 8 at 3). Mayor James Curry
(“Mayor Curry”) described the decision facing the
Borough as a choice between “the lesser of two
evils” and noted that leasing the system is the
“best [solution] at this time.” (Id. at
6; Tr. 69:14-21). Neither Mayor Curry nor Councilman
Kapenstein participated in negotiations of the lease
agreement that predated the September 29, 2014 meeting. (Tr.
43:16-22, 70:20-22, 73:20-74:1). The Borough awarded the
lease agreement to Middletown Water in exchange for an
upfront payment of $43 million and annual payments totaling
$45 million over the 50-year term. (See Correll Aff.
¶ 8; Kapenstein Aff. ¶ 25; see also M.W.
Ex. 1 at 33).
Water Sales Shortfall
Water assumed control of the water and sewer system effective
January 1, 2015. (M.W. Ex. 8 at 2). The parties convened
monthly operations committee meetings and Middletown Water
provided monthly operations reports. (See M.W. Exs.
24-30, 33-43; Tr. 26:18-24, 78:20-79:10, 82:7-12). Borough
manager Kenneth Klinepeter (“Klinepeter”),
accompanied by counsel, represented the Borough at these
meetings. (Tr. 79:14-21). Each monthly operations report
included Middletown Water's calculation of the water
sales shortfall and an explanation of said calculation.
(See M.W. Ex. 24 at 15; M.W. Ex. 25 at 14; M.W. Ex.
26 at 14; M.W. Ex. 27 at 14; M.W. Ex. 28 at 15; M.W. Ex. 29
at 15; M.W. Ex. 30 at 16; Tr. 26:25-27:2, 28:21-29:3;
82:7-12; 84:17-85:6). Through late 2017, the Borough
expressed no concerns regarding these monthly reports or the
lease agreement's water sales shortfall provisions. (Tr.
29:10-24, 49:3-50:15, 85:7-10).
Water notified the Borough in late 2017 that a water sales
shortfall occurred during the three-year test period of 2015
through 2017. (M.W. Ex. 31). The shortfall recovery amount
for this three-year period was approximately $1.9 million
which resulted in an annual shortfall recovery amount of
approximately $640, 000. (M.W. Ex. 31 at 5). On March 28,
2018, Middletown Water notified Borough consumers that an