20th CENTURY INSURANCE COMPANY et al., Plaintiffs and Respondents, v. JOHN GARAMENDI, as Commissioner, etc., Defendant and Appellant; 20th CENTURY INSURANCE COMPANY et al., Plaintiffs and Respondents; v. JOHN GARAMENDI, as Commissioner, etc., Defendant and Appellant; VOTER REVOLT, Intervener and Appellant; HARTFORD STEAM BOILER INSPECTION AND INSURANCE COMPANY et al., Plaintiffs and Respondents, v. JOHN GARAMENDI, as Commissioner, etc., Defendant and Appellant, 8 Cal. 4th 216

Opinion MOSK, J. —At the November 8, 1988, General Election, the voters approved an initiative statute that was designated on the ballot as Proposition 103. The measure made numerous fundamental changes in the regulation of automobile and other forms of insurance in California. Formerly, the so-called “open competition” system of regulation had obtained, under which “rates [were] set by insurers without prior or subsequent approval by the Insurance Commissioner . . . .” (King v.

Meese (1987) 43 Cal.3d 1217, 1221 [240 Cal.Rptr. 829, 743 P.2d 889].) Under that system, “California ha[d] less regulation of insurance than any other state, and in California automobile liability insurance [was] less regulated than most other forms of insurance.” (Id. at p. 1240 (cone. opn. of Broussard, 1).) The initiative contained, among others, provisions relating to the rollback of rates for insurance within its coverage for the period extending from November 8, 1988, through November 7, 1989. (For purposes here, a rate is the price or premium that an insurer charges its insureds for insurance.) It scarcely needs mention that the regulation of the insurance industry is squarely within the state’s police power. “What [has been] said about the police power—that it ‘extends to all the great public needs’ and may be utilized in aid of what the legislative judgment deems necessary to the public welfare, [citation]—is peculiarly apt when the business of insurance is involved—a business to which the government has long had a ‘special relation.’ ” (California Auto.

Assn. v. Maloney (1951) 341 U.S. 105, 109 [95 L.Ed. 788, 792, 71 S.Ct. 601].) In Calfarm Ins. Co. v. Deukmejian (1989) 48 Cal.3d 805 [258 Cal.Rptr. 161, 771 P.2d 1247] (hereafter sometimes Calfarm), we upheld, inter alia, Proposition 103’s provision requiring rate rollbacks. In this proceeding, we review the implementation of Proposition 103’s rate rollback requirement provision by the Insurance Commissioner. The incumbent is John Garamendi, the first person elected to the office. His predecessor was Roxani M. Gillespie, who was appointed thereto.

Specifically, we decide appeals and cross-appeals from a judgment of the Los Angeles County Superior Court in three consolidated cases in Judicial Council Coordination Proceeding No. 2419, entitled “Proposition 103 Implementation Cases.” We transferred the cause, which was then pending in No. B074704 in the Court of Appeal, Second Appellate District, to ourselves because it “presents issues of imperative public importance requiring prompt resolution” by this court “and justifying a departure from normal appellate processes.” (Cal.

Rules of Court, rule 27.5(b).) The cases are as follows. 1. 20th Century Insurance Company et al. v. Garamendi (Super. Ct. S.F. County, 1991, No. 938470, trans., Super. Ct. L.A. County, 1992, No. BC046216) (hereafter 20th Century I). This action concerns, inter alia, the validity of rate regulations adopted by the Insurance Commissioner as to rollbacks both on their face and as applied. The regulations in question include regulations strictly so called: rules generally applicable to all insurers formulated by the commissioner in quasi-legislative proceedings in File No. RH-291.

They include as well regulations incorporating “generic determinations”: findings relating to all or at least several insurers made by the commissioner in consolidated hearings conducted in accordance with quasi-adjudicatory procedures and then adopted by him as regulations—specifically, findings arising from

(1) File No. RCD-1, concerning exposure basis, reserve strengthening, executive compensation, efficiency standards, etc.; and

(2) File No. RCD-2, concerning rate of return, leverage factor, projected yield, etc. This action also concerns the constitutionality of Proposition 103’s rate rollback requirement provision both on its face and as applied. The parties include 20th Century Insurance Company and 21st Century Casualty Company (hereafter collectively 20th Century) as plaintiffs (and, formerly, petitioners) and the commissioner in his official capacity as defendant (and, formerly, respondent). 2. 20th Century Insurance Company et al. v. Garamendi (Super. Ct. L.A. County, 1992, No. BS016789) (hereafter 20th Century II).

This action involves, among other issues, the validity of the rate regulations both on their face and as applied and also the validity of a rollback order issued by the Insurance Commissioner against 20th Century pursuant thereto. The parties include 20th Century as petitioners and the commissioner in his official capacity as respondent. By leave of court, Allstate Insurance Company (hereafter Allstate) and Voter Revolt, the proponent of Proposition 103, are interveners, the former on 20th Century’s side, the latter on the commissioner’s. 3. Hartford Steam Boiler Inspection and Insurance Company et al. v.

Garamendi (Super. Ct. L.A. County, 1991, No. BC023983). This action concerns, inter alia, the validity of the rate regulations incorporating generic determinations, both on their face and as applied, relating to the issue of “leverage,” i.e., the “surplus” or available capital that backs up premiums. It appears that the insurance industry’s surplus is greatly represented by appreciating assets (such as stocks and bonds), as opposed to depreciating assets (such as plant and equipment). Over-leverage (or undercapitalization) threatens insolvency: there is insufficient surplus to back up premiums.

By contrast, under-leverage (or overcapitalization) threatens undue profit: there is surplus beyond what is useful to back up premiums—surplus surplus— which inflates the insurer’s capital base and any rate set thereon to the disadvantage of its insureds, while at the same time it produces investment income from appreciating assets. This action was bifurcated as to the leverage issue and consolidated with 20th Century I and 20th Century II with regard thereto.

The parties include Hartford Steam Boiler Inspection and Insurance Company (hereafter Hartford) and the State Farm Insurance Companies (hereafter State Farm), together with scores of other insurers, as plaintiffs and petitioners, and the commissioner in his official capacity as defendant and respondent. I. Proposition 103 and Calfarm Among other things, Proposition 103 added the following sections to the Insurance Code. Insurance Code

section 12900. This provision makes the Insurance Commissioner an elected official. Insurance Code

section 1861.01. Subdivision (

a) is the rate rollback requirement provision. “For any coverage for a policy for automobile and any other [specified] form of insurance . . . issued or renewed on or after November 8, 1988, every insurer shall reduce its charges to levels which are at least 20% less than the charges for the same coverage which were in effect on November 8, 1987.” Subdivision (

b) defines the procedural mechanism for relief from the rate rollback requirement provision. “Between November 8, 1988, and November 8, 1989, rates and premiums reduced pursuant to subdivision (

a) may be only increased [szc: read, “may be increased only”] if the commissioner finds, after a hearing, that an insurer is substantially threatened with insolvency.” Subdivision (

c) institutes the “prior approval” system. “Commencing November 8, 1989, insurance rates . . . must be approved by the commissioner prior to their use.” Insurance Code

section 1861.05. Subdivision (

a) articulates the substantive standard of the “prior approval” system. “No rate shall be approved or remain in effect which is excessive, inadequate, unfairly discriminatory or otherwise in violation of [specified law]. In considering whether a rate is excessive, inadequate or unfairly discriminatory, no consideration shall be given to the degree of competition and the commissioner shall consider whether the rate mathematically reflects the insurance company’s investment income.” Subdivision (

b) defines the procedural mechanism for the “prior approval” system. “Every insurer which desires to change any rate shall file a complete rate application with the commissioner. . . . The applicant shall have the burden of proving that the requested rate change is justified and meets the requirements of’ specified law. The scheme for the regulation of rates thus established by Proposition 103 is as follows.

For the period extending from November 8, 1988, through November 7, 1989 (hereafter sometimes the rollback year or simply 1989), as a temporary regulatory regime of rate reduction and freeze evidently designed to allow the setting up of a permanent regulatory regime to follow, Proposition 103 itself sets a maximum rate for covered insurance at 80 percent of the rate for the same insurance in effect on November 8, 1987 (hereafter sometimes the 1987 rate).

For the period extending from November 8, 1989, into the future, Proposition 103 institutes a permanent regulatory regime comprising the “prior approval” system, under which, in the words of Insurance Code

section 1861.05, subdivision (a), the Insurance Commissioner must approve a rate applied for by an insurer before its use, looking to whether the rate in question is “excessive, inadequate, unfairly discriminatory or otherwise in violation of’ specified law—considering the “investment income” of the individual insurer and not considering the “degree of competition” in the insurance industry generally.

In Calfarm, we reviewed Proposition 103 against challenges under the United States and California Constitutions, including a claim that the rate rollback requirement provision was on its face invalid as confiscatory and arbitrary, discriminatory, or demonstrably irrelevant to legitimate policy in violation of the takings clause of the Fifth Amendment and

article I,

section 19 and the due process clause of the Fourteenth Amendment and

article I, sections 7 and 15. In the course of our analysis, we rejected the point. Our reasoning was as follows. Proposition 103’s rate rollback requirement provision, viz., Insurance Code

section 1861.01, subdivision (a), which sets the maximum rate for the rollback year at 80 percent of the 1987 rate, would be facially invalid because confiscatory if rate adjustments necessary to avoid confiscation were not available for individual insurers. (Calfarm Ins. Co. v. Deukmejian, supra, 48 Cal.3d at p. 820 [“The risk that the rate set by the statute is confiscatory as to some insurers from its inception is high enough to require an adequate method for obtaining individualized relief.”].) Proposition 103’s procedural mechanism for relief from the rate rollback requirement provision, viz., Insurance Code

section 1861.01, subdivision (b), which allows an increase over the maximum rate for the rollback year of 80 percent of the 1987 rate only if the insurer is “substantially threatened with insolvency,” is facially invalid because it precludes rate adjustments necessary to avoid confiscation, and further cannot be sustained as a temporary or emergency measure. (Calfarm Ins. Co. v. Deukmejian, supra, 48 Cal.3d at pp. 816-821.) Insurance Code

section 1861.01, subdivision (b), however, is severable from the balance of Proposition 103. (Calfarm Ins. Co. v. Deukmejian, supra, 48 Cal.3d at pp. 821-822.) Insurance Code

section 1861.05 is the “general standard for rate adjustment" for most rates and Insurance Code

section 1861.01, subdivision (b), is an “exception” for rates for the rollback year. (Calfarm Ins. Co. v. Deukmejian, supra, 48 Cal.3d at p. 822.) The invalidation of Insurance Code

section 1861.01, subdivision (b), “leaves untouched” Insurance Code

section 1861.05. (Calfarm Ins. Co. v. Deukmejian, supra, 48 Cal.3d at p. 822.) In other words, the “deletion” of the “exception” allows the “general standard” to be applicable in all cases. (Id. at pp. 822, 825, fn. 17.) The “general standard” declares, in subdivision (

a) of Insurance Code

section 1861.05, that “[n]o rate shall. . . remain in effect which is excessive, inadequate, unfairly discriminatory or otherwise in violation of’ specified law. Hence, the “general standard” “requires rates within that range which can be described as fair and reasonable . . . .” (Calfarm Ins. Co. v.

Deukmejian, supra, 48 Cal.3d at pp. 822-823.) “The terms ‘fair and reasonable’ and ‘confiscatory’ are antonyms . . . .” (Id. at p. 816, fn. 5.) The range of fair and reasonable rates is defined in light of the insurer’s legitimate interest in financial integrity and the insured’s legitimate interest in freedom from exploitation. (See id. at p. 816 [implying that controls on rates must be “ ‘reasonably calculated to eliminate excessive’ ” charges to consumers “ ‘and at the same time provide’ ” producers “ ‘with a just and reasonable return on their property’ ”].) A “confiscatory rate is necessarily an ‘inadequate’ rate . . . .” (Id. at p. 822.) Therefore, the “general standard” “prohibits . . . maintenance of confiscatory rates.” (Id. at pp. 822-823.) It follows that subdivision (

a) of Insurance Code

section 1861.05 “provides a constitutionally valid standard for rate adjustment . . . .” (Calfarm Ins. Co. v. Deukmejian, supra, 48 Cal.3d at p. 823.) Accordingly, Insurance Code

section 1861.01, subdivision (a)—which sets the maximum rate for the rollback year at 80 percent of the 1987 rate—is not facially invalid because confiscatory inasmuch as rate adjustments necessary to avoid confiscation are in fact available for individual insurers. (Calfarm Ins. Co. v. Deukmejian, supra, 48 Cal.3d at pp. 816-826.) Further, under Proposition 103 “insurers will [not] be compelled to charge confiscatory rates pending administrative relief.” (Calfarm Ins. Co. v.

Deukmejian, supra, 48 Cal.3d at p. 823.) There are “no . . . barriers to efficient decision making" in the initiative. (Id. at p. 824.) “Much is necessarily left to the Insurance Commissioner, who has broad discretion to adopt rules and regulations as necessary to promote the public welfare.” (Ibid.) The absence of “barriers” is evident. For example, “[n]o provision bars the commissioner from consolidating cases or issuing regulations of general applicability.

Thus there is nothing here which prevents the commissioner from taking whatever steps are necessary to reduce the job to manageable size.” (Ibid.) “Moreover, the commissioner has the power to grant interim relief from plainly invalid rates. [His or her] powers are not limited to those expressly conferred by statute; ‘rather, “[i]t is well settled in this state that [administrative] officials may exercise such additional powers as are necessary for the due and efficient administration of powers expressly granted by statute, or as may fairly be implied from the statute granting the powers.” ’ [Citations.] The power to grant interim relief is necessary for the due and efficient administration of Proposition 103, and may fairly be implied from its command that ‘[n]o rate shall. . . remain in effect which is excessive, inadequate, unfairly discriminatory or otherwise in violation of [specified law].’” (Id. at pp. 824-825, italics in original.) In conclusion, under Proposition 103 “any insurer who believes the rates set by [Insurance Code]

section 1861.01, subdivision (a), are confiscatory may file an application with the Insurance Commissioner for approval of a higher rate. If that application is filed before November 8, 1989, the insurer may immediately begin charging that higher rate pending approval from the commissioner. After that date insurance rates subject to Proposition 103 must be approved by the commissioner prior to their use, but . . . the commissioner can approve an interim rate pending [his or] her final decision.

If the commissioner finds the initiative’s rate, or some other rate less than the insurer charged, is fair and reasonable, the insurer must refund excess premiums collected with interest. No insurer, however, will be compelled to charge the rates set by the initiative unless it either acquiesces in that rate or is unable to prove that a higher rate is constitutionally required.” (Calfarm Ins. Co. v. Deukmejian, supra, 48 Cal.3d at p. 825, fn. omitted.) “Proposition 103 contemplates that any rate set by the commissioner will be subject to judicial review.” (Id. at p. 825, fn. 18.) The initiative added

section 1861.09 to the Insurance Code, which expressly provides for such review. Under Insurance Code

section 1861.01, subdivision (a)—to use the terms appearing in Insurance Code

section 1861.05, subdivision (a)—a rate is “inadequate” if confiscatory and “excessive” if more than minimally nonconfiscatory and above 80 percent of the 1987 rate. II. The Present Litigation Proposition 103 did not find rest after largely surviving the challenge mounted in Calfarm. Quite the contrary. In Fireman’s Fund Ins. Co. v. Garamendi (N.D.Cal. 1992) 790 F.Supp. 938 (hereafter sometimes Fireman’s Fund), the federal district court provided a greatly abbreviated

summary: “Insurers . . . filed over fifty lawsuits in California state courts, challenging many aspects of the Commissioner’s effort to implement Proposition] 103.” (Id. at p. 942.) “In December 1989, [the Chief Justice of California], in his capacity as Chairperson of the Judicial Council of California, assigned Sacramento Superior Court Judge Richard Park to determine whether the then four pending cases relating to the implementation of Proposition 103 should be coordinated pursuant to California Code of Civil Procedure

section 404 et seq. and California Rules of Court, Rule 1501 et seq., under the special title ‘Proposition 103 Implementation Cases.’ In January 1990, Judge Park issued an order coordinating the actions, and recommended to the Judicial Council that the cases be transferred to Los Angeles Superior Court for efficiency and the convenience of the parties. The Judicial Council adopted Judge Park’s recommendation, and the coordinated cases were reassigned to Judge Miriam Vogel.

After Judge Vogel was elevated to the Court of Appeal in May, 1990, [the Chief Justice] issued an amended order reassigning the Proposition 103 Implementation Cases, then 22 in number, to Judge Dzintra Janavs. Cases filed subsequently have either been formally added-on to the coordinated actions pursuant to Rule 1544 of the California Rules of Court, or have otherwise made their way before Judge Janavs.

Presently, every Superior Court case relating to the implementation of Proposition 103 is or has been heard before her”—including those here. (Id. at p. 953, fn. 13.) To quote the words of the superior court spoken through Judge Janavs: “Proposition 103 [has] proved to be a problem child from its inception. It is doubtful whether any other initiative or legislative enactment has, in the span of just [a few] years, engendered more extensive administrative proceedings and as much litigation as Proposition 103.” The historical background is sketched in the Fireman’s Fund court’s opinion. (Fireman’s Fund Ins. Co. v.

Garamendi, supra, 790 F.Supp. at pp. 941-944.) Two aspects deserve mention. The first concerns the validity of the rate regulations, as it were, in context. The Insurance Commissioner’s predecessor had issued what is commonly referred to as her “Amended Decision.” She subsequently adopted its substance as rate regulations—which included regulations strictly so called and also generic determinations. Shortly after taking office, the present commissioner announced his intention to depart from the path charted in the Amended Decision and to strike out on a different one.

Specifically, he gave notice that he proposed to repeal his predecessor’s rate regulations and to adopt his own in their place. He did so. His action was validated in Safeco Ins. Co. v. Garamendi (Cal.App.), and State Farm Mut. Auto. Ins. Co. v. Garamendi (Cal.App.). In Safeco and State Farm, the Court of Appeal, Second Appellate District, Division Five, concluded in substance that the commissioner had proceeded lawfully: his predecessor’s Amended Decision did not bind him because it was quasi-legislative and not quasi-adjudicative; her rate regulations could yield to his.

These issues, however, are not raised in this proceeding. The second aspect concerns the validity of the rate regulations, so to speak, in and of themselves. The Office of Administrative Law (hereafter the OAL) has the authority to review and either approve or disapprove certain regulations. (See generally, Gov. Code, § 11349 et seq.) Several times, the Insurance Commissioner submitted the rate regulations (in various forms) to the OAL. Several times, the OAL disapproved them, concluding, inter alia, that they are beyond the authority conferred on the commissioner by Proposition 103 (see Gov.

Code, § 11349.1, subd. (a)(2)) and also inconsistent with the initiative’s terms (see id., § 11349.1, subd. (a)(4)) because they impermissibly “restrict an insurer’s right to obtain relief from confiscatory rates.” Regulations are generally subject to the OAL review requirement as a condition of validity. (See Gov.

Code, § 11346.) But those, among others, that “[e]stablish[] or fix[] rates, prices, or tariffs” (id., § 11343, subd. (a)(1)) are excepted. (See id., 11346.1, subd. (a).) The Insurance Commissioner has taken the position that the rate regulations come within the ratesetting exception, hence fall outside the OAL review requirement, and therefore are not invalid because of OAL disapproval.

He represents that he submitted the regulations in question to the OAL “voluntarily” “in order to provide maximum opportunity for public participation, and in the hope of avoiding any litigation that might accompany his reliance on that” exception. Let us return to the present proceeding. The focus of the superior court was the Insurance Commissioner’s rate regulations as to rollbacks and his order determining 20th Century’s rate rollback liability. A. The Rate Regulations The rate regulations are codified as title 10,

chapter 5, subchapter 4.8, articles 1 through 7, sections 2641.1 through 2647.1, of the California Code of Regulations. Insofar as they directly bear on rollbacks, they are included therein as title 10,

chapter 5, subchapter 4.8,

article 5, sections 2645.1 through 2645.9, and

article 6, sections 2646.1 through 2646.5. At the outset, three general comments are called for. First, insurance premiums and losses may be accounted for on a cash or accrual basis. Cash accounting speaks of “premiums written” and “losses paid”: “premiums written” refers to dollars received; “losses paid” refers to dollars paid out. Accrual accounting, by contrast, speaks of “premiums earned” and “losses incurred”: “premiums earned” refers to dollars distributed pro rata over the term of the policy; “losses incurred” refers to both actual pay-outs and reserves set aside for future payouts.

The rate regulations generally require insurance premiums and losses to be accounted for on an accrual basis, as “premiums earned” and “losses incurred.” (See Cal. Code Regs., tit. 10, §§ 2643.3, 2644.4, 2644.5, 2644.6, 2644.7, 2645.4, 2645.9.) Second, an insurer’s capital may be measured in accordance with “generally accepted accounting principles” (hereafter sometimes GAAP) or “statutory accounting principles” (hereafter sometimes SAP).

Statutory accounting principles are more conservative than generally accepted accounting principles. “Statutory accounting principles ... are rules that state insurance departments have developed to regulate . . . insurance companies; SAP mandate that conservative methods be employed in valuing the assets of such companies to guarantee their continuing solvency. [Citations.] This routine conservatism as reflected through use of SAP requires only that [sic: read, “requires that only”] certain types of assets be considered in calculating a company’s financial condition, and that the value of such . . . assets be determined according to quite restrictive rules.” (Meyers v.

Moody (5th Cir. 1982) 693 F.2d 1196, 1218.) The rate regulations generally require an insurer’s capital to be measured in accordance with statutory accounting principles rather than generally accepted accounting principles. (Cal.

Code Regs., tit. 10, § 2643.5.) Third, insurance transactions may be subjected to “direct” or “net” “rate-making.” To quote the Insurance Commissioner: “ ‘Direct ratemaking’ measures the insurer’s operations at the ‘retail’ level, counting all premiums the insurer receives from its policyholders and all losses paid to them. ‘Net ratemaking’ measures the same operations ‘net’ of reinsurance—subtracting from premiums the insurer receives from policyholders that portion it passes on (‘cedes’) to reinsurers and subtracting from losses those amounts covered by (‘ceded to’) reinsurers.” The rate regulations generally require insurance transactions to be subjected to “direct ratemaking.” (See Cal.

Code Regs., tit. 10, § 2645.9.) Central to this matter is what is commonly referred to as the “ratemaking formula.” (Cal. Code Regs., tit. 10, §§ 2644.2, 2644.3.) Permitted EP = losses + ALAE + fixed expenses - ancil income 1 - var exp factor - profit factor + invest inc factor “Permitted EP” stands for permitted earned premium. (Cal. Code Regs., tit. 10, §§ 2644.2, 2644.3.) “Losses” means incurred losses that are adjusted as specified. (Cal.

Code Regs., tit. 10, §§ 2644.4, 2644.5, 2644.6, 2644.7, 2645.4.) “ALAE” stands for “allocated loss adjustment expenses,” which means the costs associated with the adjustment of specific claims. (Cal. Code Regs., tit. 10, § 2644.8, subd. (a).) “Fixed expenses” means expenses for acquisition (other than commission and brokerage), field supervision, and collection; plus general expenses; plus state and local taxes, licenses, and fees; minus state premium taxes; plus unallocated loss adjustment expenses—all adjusted as specified. (Cal.

Code Regs., tit. 10, § 2644.9.) “Fixed expenses” are subject to an “efficiency standard”—a test of reasonableness—for each covered line of insurance, as established from time to time by the Insurance Commissioner in a generic determination. (Cal. Code Regs., tit. 10, § 2644.12.) The generic determination applicable to rollbacks is incorporated. (Id., tit. 10, § 2645.5, subds. (b) & (c).) “Fixed expenses” do not include: (

a) political contributions and lobbying; (

b) executive compensation exceeding a reasonable amount, as found from time to time by the Insurance Commissioner in a generic determination—the generic determination for rollbacks is incorporated (Cal. Code Regs., tit. 10, § 2645.5, subd. (a)); (

c) bad faith judgments and associated allocated loss adjustment expenses; (

d) costs attendant to the unsuccessful defense of discrimination claims; (

e) fines and penalties; (

f) institutional advertising expenses; and (

g) payments to affiliates for goods or services exceeding their fair market value. (Id., tit. 10, § 2644.10.) “Ancil income” stands for “ancillary income,” which means net income not derived from operations directly related to covered insurance. (Cal. Code Regs., tit. 10, § 2644.13.) “Var exp factor” stands for “variable expense factor,” which means the sum of the commission rate and the state premium tax rate. (Cal.

Code Regs., tit. 10, § 2644.14.) “Profit factor” means the “permitted after-tax rate of return" divided by the product of the “leverage factor” for each line of covered insurance multiplied by the “federal income tax factor.” (Cal.

Code Regs., tit. 10, § 2644.15.) “Permitted after-tax rate of return” is the yield on investment as established from time to time by the Insurance Commissioner in a generic determination. (Id., tit. 10, § 2644.16.) The generic determination applicable to rollbacks is incorporated as 10 percent, “corresponding to the lower boundary of the range of reasonable [rates of] return[] . . . .” (Id., tit. 10, § 2645.6, subd. (a).) “Leverage factor” means the ratio of net written premiums to surplus for each line of covered insurance, as established from time to time by the commissioner in a generic determination. (Id., tit. 10, § 2644.17.) The generic determination of leverage ratios applicable to rollbacks is incorporated. (Id., tit. 10, § 2645.6, subd. (b).) If an insurer’s actual leverage ratio or ratios for the rollback year under 1989 calendar year data is higher than the specified leverage ratio or ratios, it is used instead. (Id., tit. 10, § 2645.6, subd. (c).) “Federal income tax factor” means 1 minus the insurer’s effective federal income tax rate. (Id., tit. 10, 2644.18.) “Invest inc factor” stands for “investment income factor,” which means the insurer’s yield multiplied by the sum of the “reserves ratio” plus the “surplus ratio.” (Cal.

Code Regs., tit. 10, § 2644.19.) “Reserves ratio” means (

a) the average of the last two years’ loss reserves, plus loss adjustment expenses reserves, plus unearned premium reserves, (

b) divided by the earned premium for the most recent year for which data are available. (Id., tit. 10, § 2644.21.) “Surplus ratio” means the reciprocal of the leverage factor. (Id., tit. 10, § 2644.22.) The ratemaking formula is designed to yield a premium that the insurer should receive from its insureds in order to earn a sum amounting to (1) the reasonable cost of providing insurance and (2) the capital used and useful for providing insurance multiplied by a fair rate of return.

This is consistent with the general rule that the rate set for a regulated firm is the sum of (1) its cost of service and (2) its capital base multiplied by a rate of return. (See, e.g., Jersey Cent. Power & Light Co. v. F.E.R.C. (D.C. Cir. 1987) 810 F.2d 1168, 1172 [28 App.D.C. 189] (en banc) [hereafter sometimes Jersey Central].) The ratemaking formula incoiporates the accounting principle of “matching.” Matching involves, inter alia, the consistent treatment of related items of revenue and expense.

Thus, for any given period, one must recognize, for example, an increase in taxes with an increase in premiums and a decrease in taxes with a decrease in premiums. So far as review of rates subject to the rate rollback is concerned, matching operates to take account of the expenses that would have been avoided had the insurer charged a rate no higher than the maximum rate set by Proposition 103 as construed in Calfarm—i.e., the rate that is 80 percent of the 1987 rate or such rate greater than 80 percent of the 1987 rate as is minimally nonconfiscatory—as well as the revenue that would have been forgone.

The ratemaking formula defines the values of many of its variables differently for the review of rates subject to the rate rollback and for the review of rates subject to the “prior approval” system. Because the “prior approval” system concerns rates for the future, its orientation is necessarily prospective. Hence, for review of rates thereunder, the ratemaking formula relies much on projections. (See, e.g., Cal. Code Regs., tit. 10, §§ 2644.2, 2644.3, 2644.4, 2644.8, 2644.9, 2644.13, 2644.20.) By contrast, because the rate rollback concerns rates for a period that has passed, its orientation is retrospective.

Hence, for review of rates thereunder, the ratemaking formula relies much on actual historical data. (See, e.g., Cal. Code Regs., tit. 10, §§ 2645.2, subd. (d), 2645.4, 2645.8.) For convenience, such data is taken largely from the 1989 calendar year instead of the rollback year, which as noted extended from November 8, 1988, through November 7, 1989. (See, e.g., id., tit. 10, §§ 2645.4, 2645.6, subd. (c).) Further, the ratemaking formula is used differently for the review of rates subject to the rate rollback and for the review of rates subject to the “prior approval” system.

Under the “prior approval” system, the insurer is effectively free to set for itself whatever rate it chooses, provided that (as relevant here) its rate is neither “excessive” nor “inadequate.” r The rate regulations define as “excessive” a rate that is “expected to yield the reasonably efficient insurer a profit that exceeds a fair return on the investment used to provide the insurance” in light of the “competing interests of consumers in lower prices and of investors in prices that yield high returns” and the “fact that insurance is imbued with the public interest and is sometimes legally required.” (Cal.

Code Regs., tit. 10, §2642.1.) They define as “inadequate” a rate “under which a reasonably efficient insurer is not expected to have the opportunity to earn a fair return on the investment that is used to provide the insurance” in light of the considerations identified above. (Id., tit. 10, § 2642.3.) Lastly, they define a “fair return” as the “profit that an investor can reasonably expect to earn from an investment in a business other than insurance subject to regulation [thereunder] presenting investment risks comparable to the risks presented by insurance subject” thereto. (Id., tit. 10, § 2642.2.) By contrast, under the rate rollback, the insurer is not free to set for itself whatever rate it chooses between the “excessive” and the “inadequate.” Rather, it is required to charge a rate no higher than the maximum rate set by Proposition 103 as construed in Calfarm—i.e., the rate that is 80 percent of the 1987 rate or such rate greater than 80 percent of the 1987 rate as is minimally nonconfiscatory, whichever is higher.

In this regard, the rate regulations set out, among others, the following findings by the Insurance Commissioner: “Proposition 103 requires that all rates charged during the rollback period be reduced by 20% from their November 8, 1987, levels. Consumers are entitled to receive, and insurers are obligated to give, this reduction, except to the extent that it violates the insurers’ constitutional rights." (Cal. Code Regs., tit. 10, § 2645.2, subd. (a).) “Insurers are entitled to rates during the rollback period that are not confiscatory.

Rates are confiscatory if and only if all the rates charged by” the individual insurer “are, taken as a whole, confiscatory.” (Cal. Code Regs., tit. 10, § 2645.2, subd. (b).) “To the extent that the rates specified by Proposition 103 for the rollback period are confiscatory, insurers are entitled to a rate above the level prescribed by the initiative, but not higher than necessary for the rates not to be confiscatory.” (Cal.

Code Regs., tit. 10, § 2645.2, subd. (c).) To cover both the rate rollback and “prior approval” system, the ratemaking formula may be used to yield both a maximum permitted earned premium (when the profit factor variable takes as its value a maximum profit factor based on a maximum permitted after-tax rate of return [see Cal. Code Regs., tit. 10, § 2644.2, 2644.15]) and a minimum permitted earned premium (when the profit factor variable takes as its value a minimum profit factor based on a minimum permitted after-tax rate of return [see id., tit. 10, §§ 2644.3, 2644.15]).

For review of rates under the “prior approval” system, the Insurance Commissioner determines both the maximum and minimum permitted earned premium. That is because, as stated, the insurer is effectively free to set for itself whatever rate it chooses between the “excessive” and the “inadequate.” A rate is “excessive” if it is higher than the maximum permitted earned premium. (See Cal.

Code Regs., tit. 10, 2644.1.) It is “inadequate” if it is lower than the minimum permitted earned premium. (See ibid.) The commissioner must approve a rate that (as relevant here) falls between the “excessive” and the “inadequate.” (See ibid.) By contrast, for review of rates under the rate rollback, the Insurance Commissioner proceeds otherwise.

As stated, the insurer is not free during the rollback year to set for itself whatever rate it chooses between the “excessive” and the “inadequate,” but rather must charge a rate no higher than the maximum rate set by Proposition 103 as construed in Calfarm, i.e., the rate that is 80 percent of the 1987 rate or such rate greater than 80 percent of the 1987 rate as is minimally nonconfiscatory. For the rollback year, the commissioner determines only the minimum permitted earned premium, and does so only to define what is minimally above “inadequate” or minimally nonconfiscatory.

The insurer must refund to each of its insureds, with simple interest calculated at 10 percent per annum computed from May 8, 1989, the midpoint of the rollback year, through the date of payment, an amount equal to the premiums paid for the rollback year multiplied by the “refund percentage,” which means the lesser of (1) the “statutory percentage” (i.e., the larger of (

a) total 1989 direct earned premium [excluding surety, credit, and financial guaranty insurance] minus total 1989 direct earned premium [excluding surety, credit, and financial guaranty insurance] adjusted to the rate that is 80 percent of the 1987 rate divided by total 1989 direct earned premium [excluding surety, credit, and financial guaranty insurance], or (

b) zero), and (2) the “constitutional percentage” (i.e., the larger of (

a) total 1989 direct earned premium [including surety, credit, and financial guaranty insurance] minus the total minimum permitted earned premium [including surety, credit, and financial guaranty insurance] divided by total 1989 direct earned premium [excluding surety, credit, and financial guaranty insurance], or (

b) zero). (Cal. Code Regs., tit. 10, § 2645.9.) In the refund calculation, the total minimum permitted earned premium is the sum of the minimum permitted earned premium for each of the covered lines of insurance written by the insurer—the latter functioning only as an intermediate step in the calculation. Central to this proceeding is not only the ratemaking formula itself, but also the nature and scope of the hearing at which the individual insurer’s rates are reviewed. Concerning the nature of a hearing for review of rates: such a hearing has two purposes. (Cal.

Code Regs., tit. 10, § 2646.4, subd. (b).) One is to determine whether the insurer has properly applied the relevant statutory and regulatory provisions, including generic determinations, in calculating the maximum or minimum permitted earned premium. (Cal. Code Regs., tit. 10, § 2646.4, subd. (b)(1).) The other is to determine whether the resulting maximum or minimum permitted earned premium should be adjusted. (Cal. Code Regs., tit. 10, § 2646.4, subd. (b)(2).) A request for such an adjustment is referred to as a “variance request.” (ibid.) There are eight valid bases for a variance request. (Cal.

Code Regs., tit. 10, § 2646.4, subd. (c).) Only three are applicable to rates under the rate rollback. (Cal. Code Regs., tit. 10, § 2646.4, subd. (d).) They are: First, the “one-line” variance: “[T]he insurer should be authorized a rate of return” other than 10 percent “on the ground that the insurer writes in only one line and its mix of business presents investment risks different from the risks that are typical of the line as a whole.” (Cal.

Code Regs., tit. 10, § 2646.4, subd. (c)(4).) Second, the “entering-the-market” variance: “[T]he insurer should be granted relief from operation of the efficiency standard for a line of insurance in which the insurer has never previously written over $1 million in earned premiums annually and in which the insurer has made or is making a substantial investment in order to enter the market. . . .” (Cal.

Code Regs., tit. 10, § 2646.4, subd. (c)(5).) And third, the “insurer-insolvency” variance: “[T]he insurer’s financial condition is such that its maximum permitted earned premium should be increased in order to protect the insurer’s solvency. . . .” (Cal. Code Regs., tit. 10, § 2646.4, subd. (c)(8).) Concerning the scope of a hearing for review of rates: “Relitigation in a hearing on an individual insurer’s rates of a matter already determined either by these regulations or by a generic determination is out of order and shall not be permitted.

However, the administrative law judge shall admit evidence he or she finds relevant to the determination of whether the rate is excessive or inadequate (or, in the case of a proceeding [concerning a rate for the rollback year], relevant to the determination of the minimum non-confiscatory rate), whether or not such evidence is expressly contemplated by these regulations, provided the evidence is not offered for the purpose of relitigating a matter already determined by these regulations or by a generic determination.” (Cal.

Code Regs., tit. 10, § 2646.4, subd. (e).) This is commonly referred to as the “relitigation bar.” B. The Insurance Commissioner’s Determination of 20th Century’s Rate Rollback Liability Let us now turn from the Insurance Commissioner’s rate regulations to his determination of 20th Century’s rate rollback liability.

It appears that a week after we handed down Calfarm, the Insurance Commissioner’s predecessor gave public notice that insurers who wished to do so could file applications for approval of rates for the rollback year higher than the maximum rate of 80 percent of the 1987 rate (hereafter “rollback-exemption” applications), and could charge such higher rates pending approval. It further appears that 20th Century filed seven “rollback-exemption” applications and proceeded to charge the indicated higher rates—which seem to have been about 12.63 percent greater than the 1987 rate—pending approval.

The firm writes six lines of insurance. Subsequently, in File No. REB-5173 the Insurance Commissioner issued an order to show cause and notice of hearing in the matter of 20th Century’s rate rollback liability. The commissioner indicated that 20th Century should refund to each insured an amount equal to the premiums paid for the rollback year multiplied by a refund percentage of 13.34 percent, with simple interest calculated at 10 percent per annum from May 8, 1989, to the date of payment. A hearing on the Insurance Commissioner’s order to show cause was held before an administrative law judge.

The hearing was extensive. In her own words, the administrative law judge considered “hundreds of pages of prefiled testimony and detailed exhibits as well as several weeks of live testimony, posthearing briefs and oral argument. . . .” The administrative law judge issued a proposed decision that fills 185 pages.

Evidently for the purpose of subsequent judicial review, she effectively lifted the “relitigation bar” to allow 20th Century to introduce evidence to challenge the premises of the rate regulations, “according] it the opportunity to present evidence ... on every issue that it contended was material.” She also recognized a constitutionally mandated “variance”— separate and independent from those established in the regulations in question—which would be available to 20th Century on proof of confiscation, for which she allowed “evidence and argument on whether the rollback formula . . . yielded unconstitutional and confiscatory results as applied to 20th Century” and thereby “justif[ied] or requir[ed] departure from the regulations . . . .” As pertinent here, her determinations were to the following effect.

During 20th Century’s rollback liability hearing, the rate regulations were in effect, notwithstanding the OAL’s disapproval at various times.

Proposition 103 authorizes the Insurance Commissioner to adopt rate regulations to implement the rate rollback requirement provision. “The regulations,” explained the administrative law judge, “avoid the administrative gridlock that would result from readjudicating over and over hundreds of issues that affect multiple insurers in lengthy hearings that would yield inconsistent results—if they ever yielded any result at all.” (Italics added in place of underscoring in original.) “The regulations employ generic determinations and a detailed formula designed to ensure manageability and consistent treatment of insurers and insureds." “At the same time, the regulations incorporate multiple company-specific factors into the rollback formula, and then are applied in individual adjudicatory hearings.

The company-specific hearings allow further tailoring to a company’s situation . . . .” Specifically, Proposition 103 authorizes the Insurance Commissioner to adopt rate regulations to implement the rate rollback requirement provision with a view toward factors including the individual insurer’s profits and not—as 20th Century claims he must—through the imposition of general “price caps” on the rates of insurers generally. 20th Century’s rates for the rollback year might survive the imposition of such “price caps” because they were relatively low—reflecting its relatively low costs: it is a direct writer of insurance, and therefore does not employ or utilize captive or independent agents; and it is very selective as to its insureds, choosing preferred risks.

But, observed the administrative law judge, 20th Century’s argument for regulation by “price caps” rather than factors including profits is bottomed on “policy” rather than law—specifically, a “policy" that “would have us ignore Calf arm's emphasis on” such factors as profits “and Proposition 103’s call for reduction of rates industry-wide,” “regardless of whether the rates were low or high by industry standards . . . .” (Italics added in place of underscoring in original.) Confiscation requires at least “deep financial hardship”—albeit “deep financial hardship” short of bankruptcy—within the meaning of Jersey Central. (Jersey Cent.

Power & Light Co. v. F.E.R.C., supra, 810 F.2d at p. 1181, fn. 3.) Moreover, it “is an enterprise-wide issue, not one to be parsed on a line-by-line basis.” Under the rate rollback requirement provision—to use the terms appearing in Insurance Code

section 1861.05, subdivision (a)—a rate is “inadequate” if confiscatory and “excessive” if more than minimally nonconfiscatory and above 80 percent of the 1987 rate. Proposition 103 authorizes the Insurance Commissioner to adopt a rate-making formula to implement the rate rollback requirement provision. Specifically, it empowers him to frame a ratemaking formula to determine whether, for an individual insurer, a maximum rate for the rollback year higher than 80 percent of the 1987 rate is required to avoid confiscation and, if so, what such higher maximum rate is.

Substantively, the rate regulations are valid on their face as necessary and proper for the implementation of Proposition 103’s rate rollback requirement provision. Specifically, the rate regulations are sound insofar as they define 10 percent as the lower boundary of the range of reasonable rates of return in the ratemaking formula.

The administrative law judge stated that the 10 percent rate of return was based “on the average historical rates of return actually achieved by the industry between 1980 and 1989, rather than theoretical investor expectations determined by econometric models.” She noted that the “industry earned an average 9.1% return ... in 1989” under statutory accounting principles, and that “over the 10 years from 1980 to 1989 averaged a 10% return” under both statutory accounting principles and generally accepted accounting principles. (Internal quotation marks omitted.) She concluded that “[u]se of actual historical rates of return rather than inherently speculative hypothetical projections of investor expectations is . . . reasonable . . . , particularly for a time period now already past.” The ratemaking formula, it must be noted, does not purport to guarantee any individual insurer a rate covering its cost of service plus 10 percent of its capital base independent of the various adjustments, exclusions, etc., incorporated therein.

There is no constitutional or other requirement that all reasonable expenses and prudent investments must be allowed. The rate regulations are also sound insofar as they recognize investment income in the ratemaking formula. “[Ujnlike other businesses such as public utilities,” observed the administrative law judge, “insurers need not transform their capital into physical assets like a power plant, but may keep them instead in liquid assets like stocks and bonds.

Surplus may simultaneously support the insurance business and earn investment income.” The rate regulations are sound as well insofar as they concern the line of earthquake insurance, which is of particular interest because the Loma Prieta earthquake struck Northern California during the rollback year. They subject all insurers to consistent treatment, including direct ratemaking—which is used to avoid a possible loophole since reinsurance is generally not regulated (Ins. Code, § 1851, subd. (a)).

They yield generally supportable outcomes for individual insurers, although they disfavor those whose incurred losses are small and favor those whose incurred losses are large. In any event, they do not themselves determine the insurer’s rate rollback liability. The minimum permitted earned premium for the earthquake line must not be viewed in isolation as an end result. Together with the minimum permitted earned premium for each of the insurer’s other lines, it functions only as an intermediate step in the refund calculation.

With specific regard to direct ratemaking, the administrative law judge observed: The Insurance Commissioner’s adoption of “direct ratemaking as a consistent basis for determining rollback obligations” is a “reasonable policy choice . . . .” One of 20th Century’s witnesses “admitted that 20th Century, like the industry generally,” uses direct ratemaking.

He also “agreed that as a matter of policy the Commissioner should adopt a consistent basis for all insurers and that direct ratemaking would greatly benefit companies with large reinsured losses like those who paid claims due to the Loma Prieta earthquake.” He “acknowledged” that “most insurers benefit from use of the direct basis since they had large losses ceded to reinsurers in 1989 due to the Loma Prieta earthquake . . . , and those recoveries from reinsurers are not recognized on a direct basis.

Therefore, the uniform use of direct rather than net ratemaking was more favorable to the industry as a whole, while placing the higher rollback obligation on those with low losses and thus better able to pay it.” “Further, while 20th Century’s argument that direct ratemaking is unfair because it ignores money actually paid to purchase reinsurance in 1989 has some appeal at first blush, it ignores the fact that any set of accounting rules necessarily includes conventions which in a sense deviate from actual expenditures.

Indeed, 20th Century benefits from the regulations’ recognition of 1989 reserves as if those amounts were actually paid, when in fact the claims covered by reserves were actually paid after 1989.” Surely, “losses are a major component” in the rate regulations— both generally and specifically as to rollbacks.

But that is simply “because the nature of the insurance business is to indemnify losses.” The rate regulations are also sound insofar as they require a uniform, maximum rate for the rollback year, and a uniform percentage refund of premiums overcharged and overpaid therein, without regard to claimed “excessiveness” or “inadequacy” in individual lines. Further, the rate regulations are not impermissibly “retroactive.” Procedurally, the rate regulations are valid on their face as necessary and proper for the implementation of Proposition 103’s rate rollback requirement provision.

Specifically, they are sound insofar as they provide for a hearing on an individual insurer’s rate rollback liability. They do not preclude an “individualized” hearing by reason of the nature or number of the potentially available variances, viz., the “one-line,” “entering-the-market,” and “insurer-insolvency” variances. Neither do they preclude an “individualized” hearing by reason of the “relitigation bar.” Moreover, substantively and procedurally, the rate regulations are valid as necessary and proper for the implementation of Proposition 103’s rate rollback requirement provision as applied to 20th Century.

The operation of the ratemaking formula with its variables deriving their values from firm-specific data necessarily afforded 20th Century whatever rate adjustment was necessary to avoid confiscation. The hearing thereon was “individualized” and altogether full and fair. Further, 10 percent as the lower boundary of the range of reasonable rates of return is not confiscatory as to 20th Century. 20th Century introduced evidence in an attempt to establish its entitlement to a rate of return of at least 20 percent and perhaps as high as 99 percent.

The evidence related to 20th Century’s cost of capital. “Cost of capital” may be defined as the rate of return available in the marketplace on investments comparable in terms of risk and otherwise or, more practically, as the expected rate of return a hypothetical investor would require to take a position in the firm in question.

Specifically, the evidence looked to 20th Century’s cost of capital derived from various econometric models directed toward the “optimal prospective rate of return based on hypothetical investor expectations.” 20th Century’s cost-of-capital evidence was deemed immaterial by the administrative law judge. The adjective “optimal” is inapt: Under Proposition 103 as construed in Calf arm, for the rollback year the Insurance Commissioner “must select a rate at or near the bottom of the range of rates which are constitutional.

Yet [20th Century] has ignored the lower end of the range, instead focusing exclusively on the highest rate of return that might conceivably be expected by investors in 1989.” Also inapt is the adjective “prospective”: “While estimated returns are pertinent for prospective rate-making [under the “prior approval” system], implementation of the rollback does not require prospective ratemaking but rather the determination of a minimum nonconfiscatory return for a period now past.” (Internal quotation marks omitted.) 20th Century’s cost-of-capital evidence was also deemed unpersuasive by the administrative law judge.

One of 20th Century’s main expert witnesses “testified to a constitutionally required rate of return (ultimately 33 percent, earlier 41.5 percent, and even higher when he initially advocated more than doubling his figures) that exceeds 20th Century’s actual rate of return” of about 31.51 percent under statutory accounting principles and 32.52 percent under generally accepted accounting principles.

Neither is any of the following confiscatory as to 20th Century: the treatment of the line of earthquake insurance, including direct ratemaking; the variable expense factor; the leverage factor; or the requirement of a uniform, maximum rate for covered insurance for the rollback year, and a uniform percentage refund of premiums overcharged and overpaid therein, without regard to claimed “excessiveness” or “inadequacy” in individual lines.

As to the treatment of the line of earthquake insurance, including direct ratemaking, the administrative law judge observed: “The component of the rollback calculation related to 20th Century’s Earthquake line may appear somewhat harsh when it is viewed in isolation . . . , as if it were the final result rather than only an intermediate step in the calculation.

However, 20th Century’s rollback must be judged on the issue of confiscation based on the overall result. [Citation.] From that perspective, the impact is not confiscatory. [Citation.] 20th Century is a multi-line insurer whose Earthquake line accounted for only 1.35 percent of its business ($8.7 million of $641.7 million) in the rollback year, and its unrecognized reinsurance premiums on Earthquake only accounted for 0.7 percent of its business ($4.5 million of $641.7 million). [Citation.] It admittedly suffered very low losses in its Earthquake line that year [because of its concentration in southern California, which did not experience the Loma Prieta earthquake] and its cost of writing that coverage was small (estimated . . . to be as low as five dollars per policy, [citation]), so it enjoyed a high profit in that line.

In any case, calculation of the Earthquake component of the rollback is merely one of the many intermediate steps to the final rollback.” (Fn. omitted.) As to the leverage factor, the administrative law judge observed: “For rollback, the regulations use whichever is higher, the actual leverage ratio that the insurer had in the rollback year or a specified ratio.” (For the “prior approval” system, by contrast, they use a specified leverage ratio, even if the actual ratio is higher.) 20th Century “contends that for the rollback year it should be permitted to earn a profit on a higher level of surplus (i.e., lower leverage or premium-to-surplus ratio) than it actually had that year, because as a more highly leveraged company, it was riskier and therefore entitled to a higher rate of return.” This “contention boils down to an unjustifiable request to earn a profit on capital that it did not have.” In addition, 20th Century “omits the corollary to its argument that its stockholders deserve a higher return because of the greater risk entailed by [its] high leverage ratio: that policyholders who purchased its insurance for security and peace of mind shared in this higher risk, and probably did so involuntarily.” Implicit in the administrative law judge’s observation is a recognition that the leverage factor is crucial to the determination of rates.

As stated, the ratemaking formula is designed to yield a premium that the insurer should receive from its insureds in order to earn a sum amounting to (1) the reasonable cost of providing insurance and (2) the capital used and useful for providing insurance multiplied by a fair rate of return. The leverage factor directly contributes to the definition of the capital that is deemed used and useful for providing insurance by inverse relationship: the higher the leverage ratio, the smaller the used-and-useful capital; the lower the leverage ratio, the greater the used-and-useful capital.

It follows that the leverage factor indirectly contributes to the setting of the rate itself by inverse relationship: the higher the leverage ratio, the smaller the used-and-useful capital and hence the smaller the rate; the lower the leverage ratio, the greater the used-and-useful capital and hence the greater the rate. Thus, so far as the determination of rates is concerned, the insurer generally favors a lower leverage ratio and its insureds generally favor a higher leverage ratio.

The nonrecognition of capital that “tum[s] out not to be “used and useful” is not confiscatory,” observed the administrative law judge, no matter the prudence of the underlying investment. The administrative law judge concluded: “Nowhere in the hundreds of pages of testimony, exhibits and argument that 20th Century has proffered in support of its argument of confiscation has it claimed that its rollback would pose the type of deep financial hardship . . . that rises to the level of confiscation.

At most, it has argued that it would not be able to expand as rapidly as it has in the past because its reduced surplus after a rollback would not support as large a growth in premiums written. [Citations.] Even assuming that this were true, 20th Century has cited no case holding that a slowdown in growth is confiscatory.

The clear evidence that 20th Century has been able to expand rapidly largely through use of retained earnings, selling stock only once in the last six years while growing from a $500 million to a $1 billion company [citation], undercuts 20th Century’s claim that it will not be able to raise new surplus if forced to rollback.

Moreover, to the extent that 20th Century has already set aside reserves against its rollback liability, with a corresponding reduction in surplus, the impact of that reduction has already occurred. [Citation.] Yet 20th Century has continued to grow by more than 10 percent each year from 1989 through 1991.” (Fn. omitted.) The Insurance Commissioner adopted the administrative law judge’s proposed decision as his own.

In accordance therewith, he ordered 20th Century to refund to each insured an amount equal to the premiums paid for the rollback year multiplied by a refund percentage of 12.203 percent, with simple interest calculated at 10 percent per annum from May 8, 1989, to the date of payment. In so doing, he effectively set 20th Century’s maximum rate for the rollback year at about 98.89 percent of the 1987 rate to avoid confiscation, rather than at 80 percent of that rate, as required by Proposition 103 in the rate rollback requirement provision.

Put differently, he reduced 20th Century’s maximum rate for the rollback year to a point a mere 1.11 percent below the 1987 rate, rather than to a point 20 percent below that rate. The Insurance Commissioner’s decision on the rate rollback liability of 20th Century is the first and only final determination of this sort. The commissioner chose the 20th Century matter as a “test case,” in part because of its relative simplicity.

It appears that more determinations of rate rollback liability will follow: The commissioner represents that about 460 insurers have filed over 4,000 “rollback-exemption” applications, and have proceeded to charge the indicated higher rates. C. The Superior Court’s Decision After a bench trial, the superior court filed its statement of decision herein, which fills 85 pages. It limited its scope to the rate regulations as to rollbacks and the 20th Century rate rollback order. It found and concluded to the following effect. The litigation is not moot.

The rate regulations were in effect during 20th Century’s rate rollback liability hearing and were applied to determine its rate rollback liability, as expressed in the rate rollback order. 20th Century has challenged both the regulations and the order. The latter stands. Whether or not the former are in effect—or were in effect at times other than 20th Century’s rollback hearing—is of no consequence here.

It was noted that the Insurance Commissioner had taken the position that the rate regulations come within the rate-setting exception, hence fall outside the OAL review requirement, and therefore are not invalid because of OAL disapproval. Whether his position was well taken was not resolved. Various standards of review are applicable. At the threshold, whether Proposition 103 authorizes the Insurance Commissioner to adopt rate regulations to implement the initiative, specifically the rate rollback requirement provision, is examined independently.

Next, whether the rate regulations actually adopted by the commissioner as to rollbacks are consistent with the measure is also examined independently. By contrast, whether the rate regulations actually adopted by the commissioner as to rollbacks are necessary and proper for the initiative’s implementation is scrutinized for arbitrariness and/or capriciousness.

Finally, in reviewing the 20th Century rate rollback order issued by the commissioner, the court is required to weigh the evidence in accordance with its independent judgment and then to sustain the decision if it finds adequate evidentiary support and to strike it down if it does not. Under independent review, the rate regulations as to rollbacks are not invalid on their face as statutorily unsupported. Proposition 103 authorizes the Insurance Commissioner to adopt rate regulations to implement the rate rollback requirement provision.

More particularly, it empowers him to define “unreasonable or imprudent expenses [or investments],” the relevant capital base, and a rate of return applicable thereto corresponding to the lower boundary of the range of reasonable rates of return. Nevertheless, under independent review, the rate regulations as to rollbacks are invalid on their face with respect to the ratemaking formula. Proposition 103 does not authorize the Insurance Commissioner to adopt a ratemaking formula to implement the rate rollback requirement provision.

To begin with, the initiative does not empower the commissioner to frame any ratemaking formula whatsoever. It does not permit him to set rates himself. Rather, as a general matter, it allows him merely to approve or disapprove rates proposed by individual insurers, applying (as relevant here) the “excessive”/“inadequate” standard.

As to rollbacks specifically, it requires him to approve any proposed rate that is minimally above the “inadequate” and to disapprove any other, even if such other rate falls at some other point below the “excessive.” (Under the rate rollback requirement provision—to use the terms appearing in Insurance Code

section 1861.05, subdivision (a)—a rate is “inadequate” if confiscatory and “excessive” if more than minimally nonconfiscatory and above 80 percent of the 1987 rate.) Further, it would not empower him to frame the ratemaking formula in question. That formula is “recursive.” It is also “unique” and without “precedent” among “similar statutes containing the widely used” “excessive”/“inadequate” standard.

In addition, it is internally inconsistent: through operation of the efficiency standards, the variable expense factor, and the leverage factor, it precludes a rate covering the individual insurer’s cost of service plus 10 percent of its capital base—a 10 percent rate of return on the capital base being defined as the lower boundary of the range of reasonable rates of return. Through such preclusion, the formula is also confiscatory. Confiscation does not require “deep financial hardship" within the meaning of Jersey Central.

Rather, it arises whenever a rate does not “produce[] a profit which an investor could reasonably expect to earn in other businesses with comparable investment risks and which is sufficient to attract capital.” In view of the foregoing, the rate regulations as to rollbacks are invalid in relevant part and the 20th Century rate rollback order, issued pursuant thereto, is void. In the event an appellate court might disagree, the superior court resolved other significant issues as follows.

Under the arbitrary-or-capricious standard, the rate regulations as to rollbacks are not invalid on their face insofar as they require that an insurer’s capital be measured in accordance with statutory accounting principles or SAP, which apparently operate to limit the capital base to capital used and useful for providing insurance. In this regard, they are necessary and proper for the implementation of Proposition 103’s rate rollback requirement provision.

The superior court stated that the Insurance Commissioner could reasonably have concluded that insureds “need not provide a return on capital which is not required for insurance business.” It implied that he could reasonably have concluded as well that insureds need not provide a return on capital that is not actually employed for that purpose. Under the arbitrary-or-capricious standard, the rate regulations as to rollbacks are not invalid on their face insofar as they define 10 percent as the lower boundary of the range of reasonable rates of return.

In this regard, they are necessary and proper for the implementation of Proposition 103’s rate rollback requirement provision. The superior court observed: “It is really rather obvious from the record herein that all [econometric] models can be manipulated/applied to produce a great range of rates of return.” Under (apparently) independent review, the rate regulations as to rollbacks are invalid on their face insofar as they treat the line of earthquake insurance as they do.

Proposition 103 does not authorize the Insurance Commissioner to adopt regulations of this sort to implement the rate rollback requirement provision. The regulations in question are unsound in that they subject insurers to direct ratemaking, which does not recognize a firm’s expenses for reinsurance, even if reasonable. In this regard—the superior court implied—they offend the United States and California Constitutions, specifically, their respective takings and due process clauses.

The regulations in question are also unsound in that they depend in substantial part on the individual insurer’s incurred losses for the rollback year. In this regard— the superior court implied—they violate the initiative’s proscription of “inadequate” rates in Insurance Code

section 1861.05, subdivision (a): calculations are based on loss data from a single year; calculations for the earthquake line, however, should be based on loss data from more than one year, because this line (along with others) is one with losses of “low-frequency” but “high-severity”; calculations for the earthquake line, if based on loss data from a single year with relatively small losses, are skewed to the confiscatory. Under (apparently) independent review, the rate regulations as to rollbacks are invalid on their face insofar as they incorporate the leverage factor.

Proposition 103 does not authorize the Insurance Commissioner to adopt regulations of this sort to implement the rate rollback requirement provision. Indeed—the superior court effectively declared—the United States and California Constitutions stand in prohibition, specifically their respective takings and due process clauses: “[L]everage reflects risk. The Commissioner recognizes this as to prospective rates by allowing more highly leveraged insurers to use [a lower] ‘normative leverage factor’ rather than [their] actual [higher] leverage.

The result is a higher allowed rate of return to compensate such insurer[s] for [their] greater risk.[] No such normative factor applies to rollbacks. . . . [Hence,] a significant amount of actual ‘proper’ 1989 surplus” is “disallow [ed] or disregarded] .... This result is confiscatory on its face.” Under (apparently) independent review, the rate regulations as to rollbacks are invalid on their face insofar as they preclude an “individualized” hearing on an individual insurer’s rate rollback liability.

Proposition 103 does not authorize the Insurance Commissioner to adopt regulations of this sort to implement the rate rollback requirement provision. Indeed—the superior court effectively declared—the United States and California Constitutions stand in prohibition, specifically their respective takings and due process clauses. The regulations in question are “preclusive” in the following two respects.

First, the regulations do not allow a variance or variances sufficient for rate adjustments necessary to avoid confiscation: the only potentially available variances are inadequate, each separately and all together—the “one-line” variance is too narrow; the “entering-the-market” variance is the same; and the “insurer-insolvency” variance is too demanding. Second, the regulations impose the “relitigation bar,” which assertedly operates to prevent proof of confiscation in and of itself (including the lower boundary of the range of reasonable rates of retiran), even if there were a sufficient variance or variances.

As stated, confiscation does not require “deep financial hardship” within the meaning of Jersey Central. Under independent review, the rate regulations as to rollbacks are not invalid on their face insofar as they require a uniform, maximum rate for the rollback year, and a uniform percentage refund of premiums overcharged and overpaid therein, without regard to claimed “excessiveness” or “inadequacy” in individual lines. Proposition 103 authorizes the Insurance Commissioner to adopt rate regulations of this sort to implement the rate rollback . requirement provision.

Under independent review, the rate regulations as to rollbacks are not invalid on their face insofar as they require the insurer to pay interest on the dollar amount of premiums overcharged and overpaid for the rollback year. Proposition 103 authorizes the Insurance Commissioner to adopt rate regulations of this sort to implement the rate rollback requirement provision. Indeed, as construed in Calfarm, it enjoins him to demand payment of interest: “insurer[s] must refund excess premiums collected [for the rollback year] with interest.” (Calfarm Ins. Co. v.

Deukmejian, supra, 48 Cal.3d at p. 825, italics added.) Also, under the arbitrary-or-capricious standard, the rate regulations as to rollbacks are not invalid on their face insofar as they fix the rate of interest at 10 percent per annum, uncompounded. In this regard, they are necessary and proper for the initiative’s implementation: “It is not unreasonable or arbitrary”—according to the superior court—“for the Commissioner to choose the same rate for rollbacks” that the Legislature chose for unearned premiums in Insurance Code

section 481.5; he is not constrained by

article XV,

section 1 of the California Constitution, which in relevant part provides for a maximum rate of interest on a judgment of 10 percent, if set at that level by the Legislature, or 7 percent, in the absence of action by the Legislature; the constitutional provision “is inapplicable to the insurer’s obligation to pay interest on rollbacks because that obligation can hardly be viewed as a ‘judgment’ ”; furthermore, in Code of Civil Procedure

section 685.010 the Legislature has in fact set the rate of interest on a judgment at 10 percent. Finally, under the arbitrary-or-capricious standard, the rate regulations as to rollbacks are not invalid on their face insofar as they set the accrual date at May 8, 1989, the midpoint of the rollback year. In this regard too, they are necessary and proper for the initiative’s implementation: “Arguably”—according to the superior court—“the Commissioner could have chosen the beginning of the rollback year as the accrual date.

The choice of the midpoint is certainly fair to all.” Under the independent-judgment-on-the-evidence standard, the rate regulations as to rollbacks are invalid as applied to 20th Century, and the 20th Century rate rollback order issued pursuant thereto is void, in the following six particulars. First is the ratemaking formula itself. Second is 10 percent as the lower boundary of the range of reasonable rates of return: at least 20 percent is the appropriate figure for 20th Century.

Third is the treatment of the line of earthquake insurance: 20th Century is subjected to direct rate-making, which does not recognize the firm’s reasonable expenses for reinsurance for the rollback year; moreover, the firm experiences an insupportable outcome, inasmuch as it is treated unfavorably because its incurred losses for the rollback year were small. Fourth is the variable expense factor. Fifth is the leverage factor. Sixth is the preclusion of an “individualized” hearing on rate rollback liability—included therein is a finding of fundamental unfairness in the conduct of the hearing.

It appears that the foregoing determinations have constitutional and statutory bases, involving as to the latter offense to Proposition 103 and as to the former confiscation and arbitrariness, discrimination, and demonstrable irrelevance to legitimate policy.

At the same time, the rate regulations as to rollbacks are not invalid as applied, and the order issued pursuant thereto is not void, as to the requirement of a uniform, maximum rate for the rollback year, and a uniform percentage refund of premiums overcharged and overpaid therein, without regard to claimed “excessiveness” or “inadequacy” in individual lines. It appears that the foregoing determination was made under constitutional and statutory principles, implying a finding of no offense to Proposition 103 and no confiscation or arbitrariness, discrimination, or demonstrable irrelevance to legitimate policy.

In accordance with its statement of decision, the superior court rendered judgment in favor of 20th Century, Allstate, Hartford, State Farm et al., and against the Insurance Commissioner and Voter Revolt. Specifically, it ordered, adjudged, and decreed that: (1) certain of the rate regulations as to rollbacks are invalid, viz., the ratemaking formula as such and many of its individual components (Cal.

Code Regs., tit. 10, §§ 2644.3, 2644.12, 2644.15, 2645.3, subd. (a), 2645.5, subds. (b) & (c), 2645.6, subds. (b) & (c)), the “relitigation bar” (id., tit. 10, § 2646.4, subd. (e)), and the “insurer-insolvency” variance (id., tit. 10, § 2646.4, subd. (c)(8)); and (2) a peremptory writ of mandate should issue commanding the commissioner to (

a) set aside the 20th Century rate rollback order, (

b) reconsider the matter in light of the superior court’s decision, and (

c) refrain from enforcing the regulations referred to above or any order made pursuant thereto. The superior court also caused issuance of the described peremptory writ of mandate. The Insurance Commissioner and Voter Revolt filed separate notices of appeal. 20th Century, Allstate, and Hartford together with other insurers, including State Farm, filed separate notices of cross-appeal. The appeals and cross-appeals were docketed in the Court of Appeal, Second Appellate District, in No. B074704.

Thereupon, the Insurance Commissioner and Voter Revolt filed separate petitions requesting predecision transfer to this court. 20th Century, Allstate, Hartford, and State Farm filed separate answers, supporting (20th Century, Hartford, and State Farm) or at least not opposing (Allstate) the requests. The commissioner also submitted a petition for writ of supersedeas. Allstate, Hartford, and State Farm submitted separate answers in opposition. Concluding that it was premature to consider supersedeas unless and until we ordered transfer, we declined to file any of these pleadings. Subsequently, we ordered transfer.

At the same time, effectively filing the relevant petition and answers, we denied supersedeas. III. Discussion In their appeal, the Insurance Commissioner and Voter Revolt and amici curiae supporting their position (hereafter collectively the Insurance Commissioner or the commissioner) raise numerous claims of error regarding the decision of the superior court. In their cross-appeal, 20th Century, Allstate, and Hartford together with other insurers and amici curiae supporting their position (hereafter collectively the insurers) raise numerous claims of their own. A.

Mootness At the threshold, the superior court determined that the litigation is not moot. Neither the Insurance Commissioner nor the insurers contend that there was error in this regard. Rightly so. We agree with the superior court that the rate regulations as to rollbacks were in effect at the time of 20th Century’s rate rollback hearing and were applied to determine its rate rollback liability, as expressed in the rate rollback order, and that 20th Century has challenged both the regulations and the order. We go beyond the superior court, however, in the following regard.

We believe that the Insurance Commissioner’s position, as noted above, is well taken. The rate regulations—both generally and specifically as to rollbacks—do indeed come within the rate-setting exception, hence fall outside the OAL review requirement, and therefore are not invalid because of OAL disapproval. (Cf. State Comp. Ins. Fund v. McConnell (1956) 46 Cal.2d 330, 343 [294 P.2d 440] [arriving at a similar conclusion under a similar, predecessor legislative scheme (see, e.g., Gov. Code, former § 11380, subd. (a)(1), Stats. 1953, ch. 1362, § 1, p. 2933; Gov.

Code, former § 11421, subd. (a), Stats. 1953, ch. 515, § 1, p. 1755) as to certain “regulations” adopted by the Insurance Commissioner “fixing and establishing insurance premium rates” for workers’ compensation insurance]; see also California Assn, of Nursing Homes etc., Inc. v. Williams (1970) 4 Cal.App.3d 800, 821 [84 Cal.Rptr. 590] [effectively distinguishing McConnell with regard to a regulation adopted by the Director of Health Care Services providi

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