17 January 2019

2019: Top Five Things to Watch in the FERC-Regulated Pipeline Space

1 – Make-up of FERC Commissioners – FERC’s leadership already was uncertain heading into 2019 before the tragic passing of Commissioner and former Chairman Kevin McIntyre on January 3, 2019. Prior to his passing, the Commission achieved a full complement of five commissioners in December 2018, following the confirmation of Bernard McNamee who filled a spot made vacant by the August 2018 resignation of former Commissioner Robert Powelson. Commissioner McNamee is facing calls to recuse himself from certain FERC electric generation proceedings given positions he took on grid resiliency in his prior position at the Department of Energy, and he is certain to be scrutinized by environmental groups for positions he is anticipated to take on pipeline matters as a FERC commissioner.  Commissioner McIntyre’s death resulted in a 2-2 split between Republican and Democratic members of the Commission that could impact natural gas pipeline certificate approvals, given that a majority vote is necessary to approve a pending project.  While the agency historically has been non-partisan, Commissioner Richard Glick, a Democrat, reliably votes against new pipeline projects citing concerns related to climate change.  The other Democrat on the Commission, Cheryl LaFleur, has a more mixed record on approving pipeline projects, but her term expires in June 2019.  It is unclear whether she will be re-nominated to serve an additional term, or if she will be replaced with another Democrat who is more aligned with Commissioner Glick.  Based upon statements made by incoming Democratic members of Congress, we expect climate change to become more of a litmus test issue for approving any nominee serving in an energy or environmental industry capacity.  Moreover, Commissioner LaFleur is the agency’s most seasoned member.  Chairman Neil Chatterjee and Commissioners McNamee and Glick have neither Powelson’s state utility commissioner experience nor LaFleur’s industry executive-level experience.  Therefore, we anticipate that FERC’s next members will need to have one of these positions in their resume to help fill an experience gap.  Given the recent partisan split in the Senate over Commissioner McNamee’s nomination, Capitol Hill dynamics will play a key role in shaping the future Commission.

2 – Litigation over Natural Gas Act (NGA) Section 7 Certificate Applications – A number of number of appeals of high-profile FERC pipeline certificate approvals will be decided in 2019, and are sure to impact FERC certificate policy. The various pending petitions challenge FERC on a number of fronts, including consideration of upstream and downstream greenhouse gas emissions related to natural gas that will flow through the pipeline projects, use of eminent domain to take private land for pipeline construction and operations, adequacy of environmental review under the National Environmental Policy Act (NEPA), and the legality of precedent agreements between a pipeline company and its shipper affiliates to support a finding of public need for the project.  These are all issues that FERC sought comment on in a Notice of Inquiry (NOI) proceeding it initiated in April 2018 to assess whether changes were necessary to its 1999 Certificate Policy Statement, the doctrine FERC currently follows when it determines whether a pipeline project is required by the public convenience and necessity under NGA section 7.  The NOI was the brainchild of Commissioner McIntyre while he was still FERC Chairman.  While thousands of comments were filed in that docket, we do not anticipate Chairman Chatterjee taking action without direction from the courts.  In other words, changes to FERC’s certificate policy are possible in 2019, but they are more likely to come from external drivers than from within the agency.

3 – Return on Equity in Cost-of-Service Ratemaking – In October 2018, FERC announced a potential policy change with respect to how it will calculate return on equity (ROE) in cost-of-service ratemaking conducted under the Federal Power Act (FPA). We expect this decision to influence cost of service ratemaking for pipelines regulated under the NGA.  The policy shift came in response to a 2017 D.C. Circuit proceeding that impacted electric transmission owners in New England.  Under the proposed policy, FERC no longer will rely solely on the discounted cash flow (DCF) methodology to ascertain a “just and reasonable” ROE.  Instead, it proposes to give equal weight to the results of four financial models: 1) DCF; 2) a capital-asset pricing model analysis (CAPM), 3) an expected earnings analysis (Expected Earnings), and 4) a risk premium analysis (Risk Premium).  FERC proposes to use the central tendency of the respective “zones of reasonableness” produced by each of the DCF, CAPM, and Expected Earnings models as the cost of equity estimate for average risk utilities, and to average those three midpoint/median figures with sole numerical figure produced by the Risk Premium model to determine ROE of average risk utilities.  FERC has since repeated this proposal in subsequent FPA proceedings.

FERC currently uses the two-stage DCF methodology to evaluate and set a pipeline company’s ROE in NGA section 4 and 5 rate case proceedings.  We anticipate the pending FPA matters to impact NGA proceedings given the similarities of the two statutes and how they have been interpreted by the courts with respect to cost-of-service ratemaking.  Certain pipeline companies are already proposing a broader approach to ROE setting in response to FERC’s October 2018 announcement.  One high-profile rate case filed under NGA section 4 in late 2018 applied the FPA proposal in its pre-filed direct testimony.  Moreover, under the proposed approach, the resulting proposed ROEs have been higher than the ROE produced by relying solely on the two-stage DCF methodology.  Thus, we expect pipeline companies to continue advocating for this approach in 2019.

4 – Income Taxes as a Rate Input – Fallout from 2018 policy changes related to the Tax Cut and Jobs Act of 2017 (TCJA) and FERC’s response to a D.C. Circuit decision concerning income tax allowances (ITA) for master limited partnerships (MLP) will continue to focus FERC in ratemaking matters in 2019. By the end of 2018, FERC had yet to issue orders related to a number of Form No. 501-G filings.  The Form No. 501-G is a one-time reportthat almost every pipeline company had to file with FERC in either the third or fourth quarter of 2018.  It was intended to demonstrate whether the pipeline was earning an over-recovery following the TCJA’s corporate tax rate reduction from 35 to 21 percent.  FERC ratemaking policy generally permits pipelines to include an ITA in their cost-of-service rates that reflects the pipeline’s actual or potential income tax allowance.  It is expected that 2019 will bring NGA section 5 rate investigations into certain pipelines’ rates based upon the Form No. 501-G data, once it has been more fully analyzed by FERC Staff.  This is certain to lead to additional NGA section 4 rate increase cases, which a pipeline will often file in response to a section 5 rate investigation to have more control over the parameters of the proceeding.

The pipeline industry also is hopeful that 2019 will bring more clarity for pipelines organized as MLPs.  In March 2018, FERC issued a Revised Policy Statement that reversed a 10 year old policy that permitted MLP pipelines to collect an ITA in cost-of-service rates if the pipeline could demonstrate that the ultimate owners of the pipeline had an actual or potential income tax liability.  The new policy limited the ITA to pipelines organized as corporations.  FERC walked this policy reversal back in an order on rehearing issued in July 2018 to provide MLP pipelines with the opportunity to argue for inclusion of an ITA in rates on a case-by-case basis, but took actions in rate cases and in the design of its Form No. 501-G that appeared to limit such opportunities.  Two pipelines, one regulated under the NGA and one regulated under the Interstate Commerce Act (ICA), have appealed FERC’s orders applying the policy statement to their rate case proceedings.  Given that the 2018 policy statement was a direct reaction to a 2016 D.C. Circuit decision, direction from the court in 2019 may impact future application of the policy statement to both natural gas and crude oil pipelines.

5 – Delayed Decision Timelines – one disappointing trend that is sure to continue in 2019 is the increasing length of time it takes for FERC to issue decisions on pending matters. This is especially true for pipeline certificate proceedings, despite FERC being a signatory to the Memorandum of Understanding Implementing One Federal Decision Under Executive Order 13807 (MOU) in 2018.  The purpose of the MOU is to streamline major infrastructure projects that require review from multiple federal agencies.  Regardless, NGA section 7 pipeline certificate proceedings are taking longer to allow FERC more time to conduct and complete environmental reviews in anticipation of sufficiency challenges by environmentalists and landowners.

Delays are not limited to natural gas pipeline certificate matters.  For example, a number of petitions for declaratory order (PDO) filed by crude and products pipelines in 2018 remain pending.  Crude and products pipelines often will not move forward with construction for new infrastructure without assurances in declaratory orders that they will be permitted to charge contract rates for services on those facilities.  In the past, FERC would issue declaratory orders on uncontested PDOs within 90 days, or in shorter time-frames, if requested by the petitioner.  The causes of the delays likely are multi-faceted.  FERC already has an extraordinary high caseload related to its size and is expected to issue thousands of orders a year on the thousands of filings made under FPA, NGA, and ICA authorities.  However, the aforementioned partisan split that became more prominent in 2018 may be an additional cause for delay.  For example, an order impacting a proposed LNG export facility was struck from the FERC open meeting agenda in December 2018, perhaps because Chairman Chatterjee was aware that it did not have enough votes for approval due to Commissioner McIntyre’s medical absence and Commissioner McNamee’s abstention as a brand new FERC member.  It is likely that decisions take longer to give Commissioners with ideological differences more time to deliberate and come to a compromise, or for the Chairman to ascertain when no agreement is possible and decide whether to issue a split decision.

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