CLEARLAKE, Calif. — The city of Clearlake’s action to file a lawsuit against Highlands Mutual Water Co. will culminate in a trial set to take place this week.

The growing tensions between the city of Clearlake and water companies that serve city residents led to the city filing the lawsuit in June.

In filing the lawsuit, the city argued that the action was necessary to obtain records and get a new election of district board members.

The suit names Highlands Mutual Water Co. and each of its five board members, citing concerns “about the ability of Highlands to provide reliable drinking water and fire flow protection.”

A short cause trial will take place at 9 a.m. Friday, July 26, in Lake County Superior Court’s Department 2.

The fight between the city and the water district comes as city officials said they are moving forward with plans to consolidate water services in Clearlake as part of a larger effort to meet the infrastructure needs that come with the plans to grow and develop the city — something community members have said they’ve wanted for decades.

The city said Highlands Mutual Water refused many requests to supply the city with records, despite the city being the largest shareholder in its service territory and having a legal right to the records under state corporation law.

“Concerns from shareholders, coupled with our own observation of poor fire flow, drinking water delivery, and Highland’s inability to serve new development, prompted us to take a closer look,” Mayor David Claffey said in a statement released by the city. “The more we delved into Highland’ operations, the more we were obstructed. City representatives were blocked from meetings or refused information, and a demand letter sent in mid-April was largely ignored. The council believes more transparency is needed and felt we had no other course of action than to file a lawsuit on behalf of the public.”

For its part, the water district called the city’s action a “frivolous lawsuit” that’s part of an effort to manipulate the shareholder vote that saw the five-member board reelected during the annual shareholder leadership election on April 10.

On July 5, the water company filed its own complaint against the city, alleging an illegal meeting of council members who participated in the water company’s annual shareholders meeting on April 10. That lawsuit has not yet been set for a hearing, according to Superior Court records.

Over the course of the past year, the relationship between the city and the water district has deteriorated.

City Manager Alan Flora said he attempted to attend a March 27 district board meeting but the district, who said he failed to give them a 24-hour notice that he intended to be there, escorted him out of the building and locked the door. At that meeting, the city said rates already considered to be “high risk” for affordability by the State Water Board were raised behind that locked door with no direct notice to shareholders.

Highlands Mutual board members, staff and shareholders also have appeared at City Council meetings to criticize the city for what they consider to be its shortcomings, including faulting the city for road conditions at a time when, as it turns out, the city is making more road improvements funded by the one-cent Measure V sales tax than has happened in its history.

In a statement about the lawsuit, Highlands Mutual Water said the city didn’t understand the “complexities of water management.”

The company added, “The water industry is highly technical and demanding. The City's approach, marked by feigned outrage and unsubstantiated allegations, threatens to destabilize a well-run operation and disrupt water service to the residents of Clearlake.”

Last week, the district also sent out another mailer urging people to call the city and demand that the lawsuit be dropped. Flora told the council at its July 18 meeting that he’d spoken to a few people responding to the fliers and that, after he explained the situation, their concerns were satisfied.

The city of Clearlake has developed a section on its website titled “What's going on with the water situation?” that focuses on the water service within the city and what they’ve learned about Highlands. City officials said they are updating the website as they obtain additional documents and reports.

The crux of the case

In preparation for its shareholder election, Highlands Mutual said proxies to cast a vote were sent to all residents and businesses in its service territory with active water
connections in accordance with the company’s bylaws, California Corporations Code and the company’s 99-year practice.

The city collected 177 proxy votes, and Flora and the majority of the council — with the exception of Councilwoman Joyce Overton — attended the April 10 meeting, submitting the proxies in an attempt to elect the City Council as the board.

During that meeting, Board President Mark Coats called the city’s effort a “hostile takeover.”

After several hours of city officials arguing the complexities of corporation law with district staff including attorney Brian Hughes, district officials ruled that the city’s effort failed and board members Mark Coats, Robert Kraft, Jessica Chernoh, Kathryn Davis and Rachelle Sapeta were reelected with 217 votes.

Highlands Mutual has since asserted that the 177 ballots the city presented at the April meeting included only 83 from actual shareholders, stating that “the remaining were unauthorized ballots from owners of vacant lots who are not eligible to vote.”

The city gave the district a demand letter on April 10 and, in followup, filed the lawsuit in Lake County Superior Court on June 11.

In its action, the city alleges the following:

• election of directors at the April 10, 2024, annual shareholders meeting was invalid (directors were not properly elected as directors) so the defendant directors (board seated April 10, 2024) are not entitled to serve as directors at Highlands; the lawsuit includes an injunction against all director defendants acting as directors or exercising any of the powers conferred on directors of Highlands;
• demand for a new, properly noticed, election where each shareholder gets a vote and each vote is counted;
• inspection of corporate records including copies of accounting books, records, and all shareholder and director meeting minutes, including any reports prepared by or on behalf of Highlands related to the condition of Highlands’ water system and its vulnerability to service interruptions;
• Highlands’ record of shareholder names, addresses, and shareholdings including the document referred to in Article IV, Section 8 of the Bylaws as the share register.

The city is additionally accusing the water district board of mismanaging the system because Highlands Mutual’s water has repeatedly exceeded minimum levels of haloacetic acids according to the State Water Resources Control Board several times in recent years.

“While this has been partially explained as a one-time event, in fact, it has been an ongoing problem over a five-year period. This is a concern since long-term exposure to haloacetic acids can cause severe health impacts,” the city said in its initial statement on the suit.

A development that includes a popular fast casual food chain has been halted by the requirement of Highlands to include large sections of their system that has been undersized for many years, the city said, noting, “Highlands should be working with the developer to identify a path for a successful project.”

The city also said a “proposed, much-needed medical clinic in Highlands’ service area was not able to meet fire department requirements due to Highlands’ inability to provide adequate service. With the City’s intervention and investment in Highland’s undersized infrastructure, the facility was completed and became operational in 2023.”

There, the city is referring to Tribal Health’s new Southshore Clinic.

During a May 28 visit to the city to deliver a $4 million check for its Burns Valley Sports Complex, Congressman Mike Thompson met with city and tribal officials about development efforts.

At that time, Tribal Health CEO Ernesto Padilla described his challenges with Highlands as well as Golden State Water, as the clinic borders both districts. He said he was quoted vastly different amounts — from $70,000 up to $700,000 — he had been told it would cost to hook the new clinic up to their systems.

Padilla said the districts also wanted Tribal Health to install equipment no one else has.

Ultimately, the city partnered to get the water connection done — Flora said the city itself put in the water line — and Padilla expressed his appreciation for those efforts.

Flora said development in the city is being held up by Highlands’ inability to meet the needs of projects with its 100-year-old water system, which he said has failed twice since 2019 and is now at risk.

He said the city is moving forward with its plans to consolidate the water districts. ““The good old boys club isn’t too excited about this,” said Flora.

Flora said the city can acquire the companies and will need to convince shareholders to support their plan, which has support from the state water board.

Elem Indian Colony Chair Agustin Garcia, whose tribe is developing projects in the city including a new travel center, said they had no idea about the water issues until talking to Padilla. He said he doesn’t think the general public is aware of the issues.

Garcia added that businesses are being held hostage by the water company. “It’s a difficult situation.”

Flora said the city initially had good conversations with the district staff — then they got cut off.
Since then, he said, the city has attempted to restart conversations and the district said not to talk to them anymore

“The voices of Highlands’ shareholders have been muted by the Board’s actions,” said Vice Mayor Joyce Overton. “This isn’t just about public properties owned by the City, but each individual shareholder being able to exercise their right to information and having a voice in how the company operates. It’s shocking to see some aspects of the company’s business practices, including that the Board makes decisions behind locked doors. Unfortunately, Highlands responded to questions and inquiries by further restricting access to information rather than simply sharing information that shareholders are entitled to review. It makes me wonder, what are they trying to hide.”

The case’s first hearing, on invalidating the April corporate election, took place on June 20 before Judge Michael Lunas.

During that hearing, Lunas set the case’s trial date for July 26.

Highlands Mutual strikes back

Highlands Mutual Water Co., in its response to the lawsuit, said that if the city is successful with its suit, it will seek “to elect a majority of Highland’s Board Members who would force the residents who own Highlands Mutual Water Company to subsidize hook-up fees for investors of new developments.”

The statement continued, “The City’s frivolous lawsuit is a second power play to hijack the Company from the shareholders/ residents who co-own it and replace the current dedicated, responsible, leadership and their unique expertise with members of the Council. Highland’s board of directors is highly committed to the community that we serve. Each of their biographies describes long histories of community involvement.”

Highlands Mutual challenged what it said is the city of Clearlake’s assertions that it can manage the water system “better than our seasoned experts who have competently run it for decades. The City already faces challenges in maintaining the basic services it is responsible for, and the idea of adding the management of a water system to its responsibilities seems unrealistic and irresponsible. We are concerned about who would take over if existing members of the City Council were to sit on our board of directors, some with histories of professional and legal improprieties.”

The company, calling the city “mismanaged,” also has made a series of additional — and, based on the record, factually questionable — allegations about city services and other matters not directly related to water, which echoed the types of verbal attacks supporters have made in city council meetings.

Water expert weighs in

At the Clearlake City Council’s June 6 meeting, ahead of the lawsuit filing, it had appeared that the situation with the city and the water district had cooled somewhat when Robert Roscoe, a respected water resources expert and consultant, gave a presentation called “Water Supply and the city of Clearlake.”

Roscoe took a conciliatory, middle-of-the-road approach, describing the city’s three separate water purveyors — Highlands Mutual, Golden State and Konocti County Water District — and their structures and lauding them all for doing a good job with a water body whose water is challenging to treat.

He focused the presentation on “what are you missing out on if you did it differently” — in other words, if a more unified approach was taken instead of having three different water companies acting independently.

Some of what would be different, according to Roscoe, include grant availability, a less disjointed water service and unified planning between the systems, which now only plan for their own needs, not the city’s.

Roscoe discussed the potential benefits of system consolidation, including improved coordination in planning, resilience, investments, reduced duplication, improved economies of scale and more efficient staffing.

“I don’t think this is as much about anything they’re really doing wrong,” it’s that it’s not in the city’s overall best interest, with opportunities missed.

His recommendations included encouraging the city to continue to work with water purveyors to coordinate capital project planning between water projects and city development/redevelopment projects.

Roscoe said the elephant in the room was the city’s struggling infrastructure. “You’ve got a lot of infrastructure that is nearing the end of its useful life.”

He said that, in his opinion, three separate water systems in a city the size of Clearlake is “two too many.” Roscoe emphasized again, however, that his recommendations were less about how the three systems were performing and more about a missed opportunity.

Jeff Davis, Highlands Water’s manager, told Roscoe, “I appreciate that,” adding he believed it was a good presentation.

During that meeting, City Attorney Ryan Jones said the city had reached out to Highlands Mutual Water to discuss consolidation as a more global topic, but was told by the water company’s attorney that they were not to have communication with them. Jones said the city took that to mean that they couldn’t talk to the water company at all.

Brian Hughes, Highlands Mutual’s attorney, asked the city what was the purpose of the discussion at that point. He said all the district had seen was discussion of takeover and consolidation.

Hughes said they would have to agree to disagree, and that the water company hadn’t been asked to present at that meeting, but he acknowledged Roscoe’s presentation was a great one.

He said the water company believes that any takeover attempt would negatively impact the community.

Overton told the water company that all the city wanted was information.

“I’m just going to stay it now because I'm tired of hearing it,” she said, adding that the water company should be ashamed of what it told shareholders, and that shareholders should ask questions.

Flora said city staff were never directed to attempt a hostile takeover. Rather, the city exercised its right to vote during a shareholder meeting.

The narrative about the hostile takeover has been created by Highlands Water Co., Flora said.

Councilman Russ Perdock added, “We should all be on the same side,” noting they are all neighbors.

Editor's note: The story has been updated to show that trial is now set to take place in Department 2.

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