FERC Proposes Codification of Cross-Subsidization Restrictions and Adopts "Safe Harbors" Under Section 203 of the FPA

August 9, 2007
Earle H. O'Donnell

On July 20, 2007, the Federal Energy Regulatory Commission ("FERC" or "Commission") issued two Notices of Proposed Rulemaking ("NOPR") and a supplemental policy statement concerning refinements and clarifications to its regulations under Section 203, 205 and 206 of the Federal Power Act ("FPA"). This "package of orders" is intended to "reflect[] both a commitment to discharge [FERC's] statutory duty and a desire to facilitate transactions in a capital intensive industry."¹ While FERC did not introduce any radical new developments in its policy or regulations, it did propose a number of measures meant to reduce the regulatory burden under Section 203 of the FPA on certain types of transactions and to fill certain perceived regulatory gaps (discussed below).

Cross Subsidization Under Section 203
With respect to cross-subsidization issues under Section 203, FERC indicated that it now recognizes three "classes" of transactions that are unlikely to raise cross-subsidization concerns, giving rise to "safe harbors" for meeting the section 203 cross-subsidization demonstration "absent concerns identified by the Commission or evidence from interveners that there is a cross-subsidy problem based on the particular circumstances presented.² "The three identified classes are:

I. "those transactions where the applicant shows that a franchised public utility with captive customers is not involved;"³

II. "those transactions that are subject to review by a state commission...where the state adopts or has in place ring-fencing measures to protect customers against inappropriate cross-subsidization or the encumbrance of utility assets for the benefit of the ‘unregulated' affiliates;"⁴ and

III. "those [transactions] involving only non-affiliates,"(i.e., "a public utility transacts only with nonaffiliated entities").⁵

These "safe harbors" should greatly ease the regulatory burden on straightforward transactions that do not raise cross-subsidization concerns.

In addition, the Commission declined to introduce federally mandated ring-fencing or other restrictions to protect against cross subsidization. Instead, the Commission will continue to examine facts and circumstances on a case-by-case basis, one important factor being a "review of whether state commissions have authority to impose cross-subsidy protections or have in place such protections."⁶ Such deference is appropriate in FERC's view because "retail customers typically represent the vast majority of load served by a franchised public utility, and ring-fencing measures typically affect the entire corporation, thereby protecting both retail and wholesale customers."⁷ The Commission thus adopts a rebuttable presumption that state measures against cross-subsidization are adequate until shown otherwise on a case-by-case basis.

Proposed Cross-Subsidization Restrictions Under Sections 205 and 206
Pursuant to its authority under Sections 205 and 206 of the FPA, the Commission proposes to "codify affiliate restrictions that would be applicable to all power and non-power goods and services transactions between franchised public utilities with captive customers and their market-regulated power sales and non-utility affiliates."⁸ These "prophylactic restrictions"⁹ are intended to fill a "gap in coverage" of current affiliate restrictions.¹⁰ The proposed uniform affiliate restrictions would apply to all franchised public utilities with captive customers and their market-regulated and non-utility affiliates. This is the only rulemaking of the three that is intended to expand regulatory requirements, and proposes to do so largely by extending existing cross-subsidization restrictions to those entities that may not have been reached by the Commission's previous application of affiliate restrictions only to market-based rate applicants and applicants for approval of merger transactions under Section 203 of the FPA.

Specifically, the restrictions would:

• Require Commission approval of all power sales by a franchised utility with captive customers to a market-regulated power sales affiliate (but not by a market-regulated entity to its franchised utility affiliate);
  
• Require a franchised public utility with captive customers to provide non-power goods and services to a market-regulated power sales affiliate or a non-utility affiliate at a price that is the higher of cost or market price;
  
• Prohibit a franchised public utility with captive customers from purchasing non-power goods or services from a market-regulated power sales affiliate or a non-utility affiliate at a price above market price (except as permitted in the next bullet); and
  
• Prohibit a franchised public utility with captive customers from receiving non-power services from a centralized service company at a price above cost.

The Commission recognizes that an overlap would exist between the proposed restrictions and restrictions on affiliate transactions recently adopted in the Market-Based Rate Final Rule,¹² but finds the new restrictions "appropriate and necessary to ensure that all franchised public utilities with captive customers have the same restrictions imposed on them."¹³ Thus, the proposed regulations fill a perceived regulatory gap left by the Commission's previous application of affiliate restrictions only to market-based rate applicants and applicants for approval of merger transactions under Section 203 of the FPA.

In the Cross-Subsidization NOPR, the Commission particularly seeks comment on whether the Commission should impose any after-the-fact reporting requirements on transactions covered by the restrictions and, if so, what such requirements should be, including:

• Whether reporting requirements regarding affiliate non-power goods and services transactions should be imposed;
  
• Whether such reporting, if required, should be on a yearly basis or within some other time frame;
  
• What specific information should be reported;
  
• Whether states already require such reporting; and
  
• What burden reporting requirements would impose).¹⁴

Comments on the Cross-Subsidization NOPR are due on August 30, 2007. The Policy Statement became effective on July 20, 2007. For more information, please contact Earle O'Donnell at , Stuart Caplan at , David Hunt at , Donna Attanasio at , or Jane Rueger at .

For information about proposed refinements to FERC's policies and additional blanket authorizations under Section 203 of the FPA, click here.

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¹ Statement of Chairman Joseph T. Kelliher, Federal Energy Regulatory Commission Open Meeting at 1 (July 19, 2007) ("Kelliher Statement").

² FPA Section 203 Supplemental Policy Statement, 120 FERC 61,060 at P 35 (2007) ("Policy Statement").

³ Id. at P 17.

⁴ Id. at P 18.

⁵ Id. at P 19.

⁶ Id. at P 23.

⁷ Id. at P 23.

⁸ Cross-Subsidization Restrictions on Affiliate Transactions, 120 FERC 61,061 at P 1 (2007) ("Cross-Subsidization NOPR").

⁹ Id.

¹⁰ Specifically, the Commission cited restrictions imposed on section 205 market-based rate applicants that do not cover non-power goods and services transactions between a franchised public utility and non-utilities (only transactions between power sales affiliates, and only those which apply for market-based rates), and restrictions imposed on section 203 applicants that only apply to merger applicants — not to other section 203 applicants and not to public utilities that do not require any section 203 authorization. Id. at P 15.

¹¹ Id. at P 16.

¹² Market-Based Rates for Wholesale Sales of Elec. Energy, Capacity and Ancillary Servs. By Pub. Utils., Order No. 697, 72 Fed. Reg. 39,903 (July 20, 2007), FERC Stats. & Regs. 31,252 (2007).

¹³ Cross-Subsidization NOPR at P 17.

¹⁴ Id. at P 18.

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