9th circuit

In an Opinion[1] issued on January 8, 2018, the United States Court of Appeals for the Ninth Circuit (“Ninth Circuit”) granted a petition for review filed by the California Public Utilities Commission (“CPUC”) in two rate proceedings in which the Federal Energy Regulatory Commission (“FERC”) summarily approved for Pacific Gas and Electric Company (“PG&E”) a 50 basis point return on equity (“ROE”) incentive adder for its participation in the California Independent System Operator Corporation (“CAISO”).  DWGP client, the Transmission Agency of Northern California, intervened in the appeal in support of the CPUC. This is a significant decision that has potential implications for other public utilities throughout the United States that receive ROE adders and thereby increase their shareholders’ return for their participation in Regional Transmission Organizations (“RTOs”) or Independent System Operators (“ISOs”).

In response to the directives of Congress in the Energy Policy Act of 2005, and specifically the requirements in section 219 of the Federal Power Act directing FERC to establish by rule, certain incentive-based rates, including incentives for electric utilities that join a RTO/ISO, FERC issued Order No. 679.[2] Order No. 679 provided, in pertinent part, that FERC “will approve, when justified,” requests for ROE-based incentives for public utilities that join or continue membership in an RTO/ISO.[3] Following Order No. 679, FERC has routinely granted a 50 basis point ROE adder to utilities that join or remain members of an RTO/ISO.

In a series of orders on two rate filings submitted by PG&E, CPUC argued that pursuant to California state law, PG&E is required to participate in the CAISO as ordered by the CPUC and, therefore, the FERC orders on review grant an incentive adder to PG&E for doing something it was already required to do and that the granting of an incentive for involuntary behavior is contrary to FERC policy. FERC rejected the CPUC’s claims and summarily granted PG&E the ROE adder finding that PG&E is presumed to meet the criteria required under Order No. 679 to receive the participation incentive.

The Ninth Circuit agreed with the CPUC and held that FERC’s orders at issue awarding the incentive adder were arbitrary and capricious.[4] The Ninth Circuit opined that by failing to provide further inquiry into the voluntariness of PG&E’s membership in the CAISO, FERC has made “ongoing membership” as “the sole criterion for receipt of an incentive adder,”[5] and made the “when justified” provision of Order No. 679 superfluous.[6] The Court found that FERC’s interpretations are inconsistent with Order No. 679, which: committed FERC to a case-by-case review of incentive adders even for utilities that had demonstrated ongoing membership in an RTO/ISO, suggested that the presumption of eligibility may be rebutted by the arguments the CPUC has made, and found that continuing membership is generally voluntary.[7] The Court stated, “[a]n incentive cannot ‘induce’ behavior that is already legally mandated,” and that Order No. 679-A necessarily implies that the RTO/ISO participation incentive is justified only for utilities that have the “option to withdraw” from the RTO/ISO.[8] It also found that by summarily granting without any case-specific inquiry into the circumstances of PG&E’s membership, FERC has created a generic adder in violation of Order No. 679’s provisions.[9]

While FERC argued that Order No. 679 considered and rejected the argument that the voluntariness of a utility’s membership in an RTO/ISO should bear on its eligibility for an incentive adder, the Court found that Order No. 679 is silent as to whether the presumption for incentive eligibility can be rebutted for utilities that cannot voluntarily leave their organizations.[10] The Court also noted that the CPUC’s challenge was not a collateral attack on Order No. 679 because no party to that proceeding raised the issue of whether a utility could qualify for an incentive adder for continued participation in an RTO/ISO when such participation was not voluntarily.[11] The Court instead found that Order No. 679 “permits challenges to incentives on the grounds that they will not induce continuing participation in transmission organizations,”[12] and that challenges such as that mounted by the CPUC are not precluded and must be answered by FERC.[13] In addition, the Court found that FERC departed without explanation from its longstanding policy that incentives should only be awarded “to induce future behavior,”[14] and to “induce voluntary conduct.”[15] The Ninth Circuit remanded the case back to FERC for further proceedings consistent with the Court’s opinion.

On remand, there is a potential that FERC could seek to address the voluntariness of PG&E’s membership in the CAISO and provide a case-specific rationale for the continued application of the ROE adder. For instance, FERC could address its argument that the Court noted was not articulated in the agency’s orders on review, namely that even if PG&E is not free to leave the CAISO without the CPUC’s consent, it still does not forbid PG&E from seeking to leave the CAISO. [16] FERC could also seek rehearing en banc of the Ninth Circuit panel’s decision, seek rehearing of the panel itself, or file a petition for a writ of certiorari with the United States Supreme Court.

The Ninth Circuit’s decision could impact the manner in which FERC applies the RTO/ISO participation adder for other California public utilities such as Southern California Edison Company and San Diego Gas and Electric Company that are also required by state law to participate in the CAISO. Indeed, in the context of a recent FERC order regarding Southern California Edison’s transmission rates, FERC Commissioner Richard Glick dissented from the summary approval of the participation adder opining that if CPUC’s interpretation of its own requirements is correct, Southern California Edison’s membership in CAISO is not voluntary and that awarding the ROE adder “does nothing to harness for consumers the benefits of RTO membership.”[17] The Court’s decision could also have an impact in other RTO/ISO regions, in considerations by FERC in its future orders or in pleadings filed by transmission customers on whether the RTO/ISO participation incentive or other incentive rate adders are being granted on a case-specific basis to induce voluntary conduct and to induce future behavior.  

For more information, please contact Michael Postar, Bhaveeta Mody, or Kristen Connolly McCullough.

[1] Cal. Pub. Util. Comm’n v. FERC, Case No. 16-70481 (9th Cir. 2018)(“Opinion”), accessible at: http://cdn.ca9.uscourts.gov/datastore/opinions/2018/01/08/16-70481.pdf.
[2] Promoting Transmission Investment Through Pricing Reform, Order No. 679, 116 FERC ¶ 61,057 (2006), on reh’g, Order No. 679-A, 117 FERC ¶ 61,345 (2006), on reh’g, Order No. 679-B, 119 FERC ¶ 61,062 (2007).
[3] Order No. 679 at P 326.
[4] Opinion at 11.
[5] Id. at 12.
[6] Id. at 12-13.
[7] Id. at 12-13, 20-22.
[8] Id. at 13-14.
[9] Id. at 22.
[10] Id. at 15.
[11] Id. at 23.
[12] Id. at 17.
[13] Id. at 17-18.
[14] Id. at 18.
[15] Id. at 20.
[16] Id. at 21, n.5.
[17]Southern Cal. Edison Co., 161 FERC ¶ 61,309 (2017), accessible at https://elibrary-backup.ferc.gov/idmws/common/opennat.asp?fileID=14787800.