1

American Public Power Association Legal Forum

San Francisco, November 8, 2004

Non-Jurisdictional Utilities in a Jurisdictional World:

FERC and the Future of Reciprocal Service

Jonathan D. SchneiderStinson, Morrison, Hecker, L.L.P.

Washington, D.C.

2

Why Discuss Reciprocity?

• Because it’s a good idea, particularly when satisfied by way of a Safe Harbor Tariff filing.

• And yet, many of the existing tariffs have become moribund due to some unnecessary incremental requirements to maintain the tariffs that FERC has imposed. – Generation Interconnection Rule.

3

Why Discuss Reciprocity?

• Why are Safe Harbor Tariffs a good idea? – Because they reflect a basic notion of fairness.

– Because they demonstrate to the industry and to FERC a certain good faith commitment to help foster a competitive wholesale market, without necessarily embracing an RTO framework, or anything like Standard Market Design.

• And yet, the reciprocity rule is probably unlawful. – Push will probably come to shove on this issue.

– We should reflect on our legal rights.

4

The Halcyon World of Order No. 888

• Eight very controversial years have passed since promulgation of Order No. 888.

• Compared with today’s environment, Order No. 888 reflected a nearly golden age of consensus on FERC’s role in regulating the electric industry.

• Public Power: – Transmission-dependent utilities were long in search of

open access to secure generation capacity.

– Others saw the advantage of available transmission to buy and sell power freely, even if they were not dependent.

5

The Halcyon World of Order No. 888

• It was in this setting that the Reciprocity Rule was first adopted.

• Non-Jurisdictional Entities (NJE’s) put up a little fuss, but only one went to court.

• That challenge was heard in Transmission Access Policy Study Group, et al v. FERC, 225 F.3d 667 (D.C. 2000), but determined to be unripe. – NPPD challenge rebuffed on ground that no IOU had

actually denied them service.

6

Order No. 888 Reciprocity

Section 6 of the O. 888 Pro Forma Tariff: “A Transmission Customer receiving transmission service under this Tariff agrees to provide comparable transmission service that it is capable of providing to the Transmission Provider on similar terms and conditions over facilities…owned, controlled or operated by the Transmission Customer

and…corporate affiliates.”

7

Order No. 888 Reciprocity - TO Options

Transmission Owner may:

(1) Deny service to an NJE that the TO in good faith believes is not providing reciprocal service;

(2) Initiate and subsequently file a complaint with FERC to terminate service.

8

Order No. 888 Reciprocity - Three Options for NJEs:

• Seek waiver

• Offer bilateral reciprocal transmission service - calling for a case-specific reciprocity determination.

– (NJE must offer TP any service the NJE provides or is capable of providing, plus OASIS and compliance with standard of conduct employee separation. O. 888-A, Regs. Preambles, ¶ 31,048 at 30,286 (1997).

• “Safe Harbor” Tariff

9

Order No. 888 Reciprocity - “Safe Harbor” Tariff :

• Safe Harbor Process: Acceptable filings blessed by FERC declaratory order as those that are:– in substantial conformity with or superior to pro forma

tariff, [O. 888, Reg. Preambles ¶ 61,036 at 31,761 (1996)];

– designed to meet Commission comparability (non-discrimination) standard, id..

• Service under tariff may be limited to IOU

Transmission Provider. O. 888-A, p. 30,289.

10

Order No. 888 Reciprocity - “Safe Harbor” Tariff :

• NJE Response was modest, but not insignificant: – Approximately two dozen utilities received

declaratory orders

• IOU challenges to NJE reciprocal service has been limited. See, e.g., Florida Power & Light , 95 FERC ¶ 61,052 (2001)

11

Life Gets Complicated

• In the intervening years, the markets witness: – California market meltdown– Enron bankruptcy and scandal– Energy trader/electric generator sector collapse– FERC’s Standard Market Design (“SMD”):

Amidst chaos in the market, FERC proposed a dramatic accretion to federal authority. (7/31/02)

• FERC has lost credibility and clout.

12

SMD’s Aftermath: FERC’s Nadir

• Docket No. RM02-12 (7/31/02) - Basic Elements, as modified by White Paper (Wholesale Market Platform) (4/20/03):

• All jurisdictional transmission, whether for wholesale transmission, unbundled retail or bundled retail service will be taken under the FERC-approved tariff. Rates for Bundled Retail Service left to state authority (White Paper).

• All transmission facilities will be operated by an FERC-approved Regional Transmission Organization (“RTO”).

13

Docket No. RM02-12 – Basic Elements, cont’d.

• RTO Operates day-ahead and real-time energy and ancillary service markets

• Market Design: Locational Based Marginal Cost Pricing at first mandatory, later subject to regional variation.

• Market Power Monitoring and Mitigation.

• Long-Term Resource Adequacy – FERC initially proposed to assume primary role, with state advisory input. White Paper appears to back down.

14

RM02-12: The States’ Response

• Vehement Opposition by: Arkansas, Alabama, California, Colorado, Georgia, South Dakota, Kentucky, Louisiana, Missouri, New Mexico, New Hampshire, North Carolina, Oregon, South Carolina, South Dakota, Tennessee, Washington.

15

RM02-12: The States’ Response, cont’d.

• Fundamental Objection: Shift in authority over utility operations and rates from state to federal government.

• Key issues: • State jurisdiction over bundled Transmission; • Mandatory RTO (utility section 205 rights)• Mandatory LMP (state prerogative and regional variation);• Resource Adequacy (traditional state matter)• Cost/benefit support

• Birmingham, Ala. and Seattle Wash. are a long way from Washington, D.C.

16

Evolution of the Reciprocity Doctrine - RM02-12 Reciprocity Scare

• In the SMD debate, many NJEs might have been content to remain on sidelines, but for Edison Electric Institute’s vision of Reciprocity: NJEs must be compliant with SMD.

– EEI Logic: Fairness rationale extends to require an identical open access structure, including RTO participation.

• FERC White Paper Position: Reiterated NOPR proposal holding that NJE reciprocity need not include RTO membership.

• The issue still resonates.

17

Evolution of Reciprocity Standards of Conduct - RM01-10• RM01-10 - Standards of Conduct

– O. 888, 888-A made it clear that reciprocal service included compliance with O. 889 Standards of Conduct and OASIS implementation.

– In Order Nos. 2004 (11/25/03), 2004-A and 2004-B, FERC has made separations of functions under Order No. 889 more rigorous.

– New rules required an informational filing in February, 2004 articulating plans for compliance, and compliance by September 1, 2004 for Safe Harbor Tariffs to remain valid.

• NJE response – less enthusiastic than to Order 888, judged by the number of informational filings.

18

Evolution of Reciprocity Standards of Conduct - RM01-10• Order No. 2004 Standards of Conduct - New Rules:

– Golden Rule: Transmission Function employees must function independently of wholesale sales and marketing groups and affiliates. Bundled Sales employees are an exception.

– Shared Employee Rules, applicable to Officers and Directors:

• Prohibits shared employees from acting as conduits of information from transmission group to merchant group; and

• Prohibits Officers and Directors from “directing, organizing or operating” the transmission system.

– Employee training mandated– Compliance Officers must be appointed.

19

Evolution of Reciprocity Gen. Intercon. - RM02-1

• Generation Interconnection Rule– In Order No. 2003, 104 FERC ¶ 61,103 (July 24, 2003), FERC

mandated the inclusion of generation interconnection procedures (“LGIP”) and a standard generation interconnection agreement (“LGIA”) in the pro forma OATT.

– The requirement is again made applicable to NJE safe harbor tariffs, with the exception of the pricing provision: Credits to interconnecting generators for system upgrades are not mandated for NJEs, provided rates are comparable for own and third party generation.

– Commission clarifies that NJE reciprocal service need not be identical to IOU service, only “comparable” to self-service. O. 2004-A, 106 FERC ¶ 61,220, P. 775 (2004).

20

Evolution of Reciprocity Obligation - RM02-1

• Generation Interconnection Rule– Commission clarifies that Interconnection Service need

not be offered to non-transmission owners. O. 2003, P. 840.

– With that, the rule is largely pointless, since it is designed to advance the interconnection of generators, not transmission owners.

– It is a lot of work.

21

Evolution of Reciprocity Obligation - RM02-1

• Generation Interconnection Rule - Response– NJE Response – less enthusiastic than for RM01-10.– South Carolina Public Service Authority, in a very exclusive

group, filed in compliance with the rule, and recommended a number of changes that were largely accepted to accommodate its non-jurisdictional status.

– However, FERC refused to allow Santee Cooper to delete Section 21.1 of the LGIA: “The Parties will comply with all applicable comparability and code of conduct laws, rules and regulations, as they may be amended from time to time.” 108 FERC ¶ 61,019 (2004).

– SC objected to this open-ended commitment. Matter is on

rehearing.

22

Safe Harbor Status – Nov. 2004

• Current status of NJE Safe Harbor filings, reflects, for many: – Fear of expansionist FERC agenda and

jurisdiction; – Lack of confidence in FERC’s vision:

• Discord over RTO costs and benefits;• Concerns over viability of competitive

market;• Regional politics.

23

NJE Life Without Reciprocity

• Persuasive case can be made for illegality of Reciprocity Rule• FERC Position: Acknowledging that NJE’s are, after all,

non-jurisdictional, FERC argued:– Basic “fairness”:

• “It would not be in the public interest to allow a non-public utility to take non-discriminatory transmission service from a public utility at the same time it refuses to provide comparable service to

the public utility.” O. 888-A, 1997 Regs. Preambles ¶ 31,048 at 30,285.

– NJE Access to the grid is voluntary, and reciprocity obligation voluntarily assumed.

24

Reciprocity’s Legality and NJE Options

• Case for Illegality: – NJEs are Non-jurisdictional!

• FERC cannot regulate transmission terms and conditions or rates.

– FERC cannot do indirectly what it cannot do directly. Sunray Mid-Continent Oil Co. v. FPC, 364 U.W. 137, 152 (1960); National Fuel Gas Supply Corp. v. FERC, 909

F.2d 1519 (D.C. Cir. 1990).

25

Reciprocity’s Legality and NJE Options

• NJE use of interstate grid is not voluntary, and reciprocal service obligation is not voluntarily assumed. Associated Gas Distributors v. FERC, 824 F. 2d 981 (D.C. Cir. 1987)

• In AGD, FERC argued that pipelines were not entitled to stranded cost recovery that followed their declaration of open access, on the ground that open access was voluntary.

• Court determined that market conditions facilitated by the agency may make an action effectively mandatory.

• It should be hard for FERC to argue that an NJE’s need for access to the interstate grid is volitional.

26

Reciprocity’s Legality and NJE Options

• Case for Illegality: – Denying access to transmission grid would be

discriminatory. • FERC should no better be able to force open access upon

NJEs in exchange for access to an IOU’s system than it should be able to mandate gifts to United Way. It may be a wonderful idea, but FERC has no business advancing the cause.

– Contrary argument: discrimination not undue since its purpose is to promote open access.

– But as to NJEs, that goal conflicts with express limitation on FERC jurisdiction.

27

Reciprocity’s Legality and NJE Options

• Case for Illegality: – 10th Amendment: Printz v. U.S., 505 U.S. (1992)

tells us the federal government cannot employ state governmental machinery to advance a federal policy. (Brady gun control bill - use of state police for background checks).

28

Reciprocity’s Legality and NJE Options

• Case for Illegality: – Antitrust Option: Since Otter Tail Power

Company v. U.S. 410 U.S. 366 (1974), antitrust remedies have been understood to be available for denial of transmission access. EPACT Section 212 expressly preserved application of antitrust law. See e.g.: Long Lake Energy Corp. v. Niagara Mohawk Power Corp. 700 F. Supp. 186 (S.D.N.Y. 1988).

29

Reciprocity’s Legality and NJE Options

• Compare: FERC assertion of jurisdiction over NJE rates (refunds) in San Diego Gas & Electric, et al., v. Sellers of Energy, et al., 97 FERC ¶ 61,275 (2001), now on appeal. – FERC asserts that its refund authority derives from its FPA

jurisdiction over PX , into which NJE’s sell power.– Jurisdiction over NJE rates said to be a necessary adjunct to

jurisdiction over PX rates.

• NJE response is similar in some ways to reciprocity response: NJE’s are NJEs

• Differences: – Discrimination not an issue re: sales jurisdiction– no antitrust issue in connection with FERC sales authority

30

Reciprocity’s Legality and NJE Options

• FERC citation to UDC v. FERC, 88 F. 3d 1105 (D.C. Cir. 1996) in San Diego may be FERC’s most serious argument. See SDG&E at 62,185.

• IN UDC v. FERC, D.C. Circuit upheld FERC’s natural gas capacity release rates and conditions, applied to NJEs assigning interstate capacity. UDC v. FERC.

• “The pipeline’s role in capacity release is absolutely central, and the transaction itself controls access to interstate transportation capacity, entirely independent of the jurisdictional nature of the releasing and replacement shippers.”

31

Reciprocity’s Legality and NJE Options

• UDC v. FERC– However, one can say that FERC’s regulation of capacity release is an

extension of its regulation of the interstate pipeline system. Interstate pipeline capacity is regulated, and the Commission has determined that in order to maintain the integrity of that regulation, it will condition pipeline sale on the purchasing parties’ assumption of the capacity release framework.

– By contrast, in the reciprocity rule, the Commission reaches out to wholly non-jurisdictional activity and imposes an open access framework.

• There’s no interweaving of the jurisdictional and NJ activity.

– Similarly, NJE sales into the California PX are a non-jurisdictional activity, in which non-jurisdictional entities are engaged. The fact that the receiving entity is jurisdictional is not relevant.

32

Reciprocity - What’s Next?

• Much depends on FERC’s ability to restore confidence in its regulation of the open market, in its ability to control RTO costs and in treating jurisdictional expansion with caution.