Opinion ID: 370388
Heading Depth: 2
Heading Rank: 6

Heading: Improper FERC Administration of the Advance Payment Program

Text: 84 We have concluded that the Commission acted within its discretion in rejecting both the pipelines' interpretation of the advance payment orders and their proposed competitive business judgment rule for administration of the reasonable and appropriate standard. We now turn to a consideration of the Commission's administration of the reasonable timing requirement, which in light of the program's justifying objectives was implicit in the reasonable and appropriate standard. 85 We recognize the limited scope of our review function. Although a court may not supplant the Commission's well-reasoned judgments with those more nearly to its liking, it must assure itself that the Commission has given reasoned consideration to each of the pertinent factors. Permian Basin Area Rate Cases, 390 U.S. 747, 792, 88 S.Ct. 1344, 1373, 20 L.Ed.2d 312 (1968). 86 1. Defining the reasonable timing requirement. In evaluating the timing relationship between an advance payment and its qualifying expenditure, the Commission focused solely on the timing requirements of conventional financing transactions. 80 It relied on the testimony of its staff engineer Robert H. Benna set forth earlier in this opinion. 81 His testimony, based on his earlier employment by Shell, was submitted as evidence that producers could satisfactorily arrange for payment of contract and materials costs on the basis of a continuing commitment and specific payments thirty days in advance of due date. From this the Commission evolved a 30-day line-of-credit approach, which it established as a presumption subject to rebuttal. It found that in the cases before it the rule was unrebutted by evidence of financial inability on the part of either producer or pipeline to arrange for payments due under advance payment contracts to be transferred on a line-of-credit basis. We find the Commission's approach unduly restrictive in that it failed to take account of all factors relevant to the  reasonable timing inquiry. 87 We agree with the Commission that its advance payment orders do not imply either a competitive business judgment rule as the sole standard for timing of advances, or authority for the extravagant costs of extended front-end advances not accompanied by reasonable controls on the timing of expenditures. However this does not mean that its orders disclosed a requirement that the pipelines adopt the tight timing practices of conventional financing transactions employed by producers like Shell in their arrangements with contractors. No strict line-of-credit requirement could fairly be implied from the terms of the advance payment orders. By so restricting the scope of its reasonable timing inquiry, the Commission failed to evaluate fully and fairly the reasonableness of the protective mechanisms adopted by particular pipelines to ful fill their obligation of vigilance in the consumers' interest. 82 88 The advance payment program was accepted by all concerned as an experimental and unconventional method of financing producer expenditures. The program embodied an important element of flexibility. This was a key feature both of our approval of the program in PSC (Advance Payments) I, and of our subsequent remand in PSC (Advance Payments) II. Nothing in the advance payment orders, not even in Order No. 499 with its express reasonable timing requirement, hinted that the pipelines were limited to line-of-credit or other conventional banking practices in the development of practical financing packages that would facilitate capital formation by producers while adequately protecting consumer interests, thus keeping advances within the confines of the program. Order No. 499 provided that as a general policy an advance should be appropriately expended within a reasonable time from the date such amounts advanced are included in the pipeline's rate base. 83 The language of the order is instinct with latitude. 89 The Commission's failure to take into account the inherent flexibility of the advance payment program was the basis for our ruling in United Gas Pipe Line Co. v. FPC. 84 In that case, involving latitude of choice of financing methods, we vacated the Commission's summary rejection of rate-base treatment for United's complex financing arrangement, which entailed an interest-reimbursement scheme rather than the lump-sum transfer of capital more typical of advance payment contracts. The arrangement contemplated that United would assist the producer to locate sources of developmental capital, and then reimburse the producer's financing costs. In our opinion for remand we noted that we found nothing in the advance payment orders precluding this method of facilitating capital formation. 90 In the pending case involving Transcontinental Gas Pipeline Corporation (Transco), 85 the advance payment contracts provided for payment by Transco on January 10 and July 10 of each year of the estimated expenditures for the subsequent six months, with adjustments semi-annually and annually to reflect overexpenditures, or underexpenditures, respectively. 86 The Commission did not say one way or the other whether the pipeline acted reasonably in fashioning this procedure as a technique for controlling producer expenditures. Instead, it applied its line-of-credit rationale to exclude from rate base all advances not expended within 30 days of the close of the test period. It appears that Transco's approach of periodic accounting and adjustment, with a semi-annual review of expenditures, constituted a prima facie showing of an effort to tie payments to qualifying expenditures. We agree with the position of the Public Service Commission of the State of New York, intervenor in the Transco proceeding, that in such a case the shoe is on the other foot and it is incumbent upon the Commission to articulate why this attempt to protect the consumers' interest falls outside the zone of reasonableness contemplated by the advance payment orders. 87 91 We remand the cases before us for a more extensive and flexible inquiry by the Commission into the reasonableness of attempts to protect the rate payers from excessive costs. If it concludes that contracts such as those presented by Transco did provide for reasonable timing protections, the Commission would have latitude as a matter of equitable discretion to conclude that the kind of interval found reasonable in a case such as Transco's could be accepted as a general bench mark, even as to contracts that did not contain precisely the same provisions. On the other hand, based on the circumstances of a particular case, the Commission may determine that a much shorter timing interval was reasonable. For example, we note that in the proceeding involving Tennessee Gas Pipeline Co., 88 Tennessee transferred $59 million in domestic advance payments to an affiliated producer. These advances were effected within the last 35 days of the test period, involved a mere bookkeeping transfer without restrictions on the timing or nature of expenditures, and to the greater extent were not put to use in qualifying expenditures for many months. 89 The ALJ disallowed the unexpended portion of these advances because in his judgment they did not constitute an arm's length transaction. The Commission reached the same result on a different rationale, deferring rate-base treatment on the basis of the 30-day rule. On remand, the Commission may determine that such advances to affiliated producers present one example of unjustifiable misuse of the advance payment program. 90 92 It is evident that a broad range of financing practices were employed under the advance payment program. Some may have evidenced a reasonable attempt to protect rate payers from excessive costs; others, perhaps, did not. We do not prejudge the result in any particular case; such determinations are for the Commission in the first instance. 93 In sum, we remand these cases because the Commission failed to apply the proper legal criteria when it administered the reasonable timing aspect of the reasonable and appropriate standard. The advance payment orders did not require adherence to strict line-of-credit or other conventional banking practices, but rather were instinct with the attitude of flexibility and experimentation that motivated the advance payment program. The Commission correctly determined both that good faith response to competitive pressures was an inadequate justification for advance payments and that the pipelines had a responsibility to protect their rate payers from excessive costs, E. g., to take reasonable steps to ensure that the timing of advances was tied to that of qualifying expenditures. But the advance payment orders allowed a certain discretion to the pipelines and encouraged them to develop practical financing packages that would facilitate capital formation by producers while adequately protecting consumer interests, thus keeping advances within the confines of the program. Application of the correct legal standard on remand requires consideration of the various factors pertinent to a determination of the reasonableness Vel non of the pipelines' efforts in this direction. 94 2. Latitude on remand. The Commission has latitude under its statute to use its equitable discretion and to choose alternative procedures or mechanisms to formulate and to effectuate its judgment; 91 the result need not require a painstaking readjustment of rate base in each case. 95 The Public Service Commission of the State of New York, an active and helpful participant in all phases of the development, administration, and review of the advance payment program, calls our attention to the interrelationship between the Commission's ruling on the advance payment question and its determination on rate-of-return. In the Tennessee proceeding, 92 the Commission readjusted upwards the return on rate base allowed by the administrative law judge on the basis of a revised assessment of the risks faced by the industry in these times of acute supply shortages. In the Commission's view, the pendulum has definitely swung in a direction substantially contrary to the interests of the investor. A time of adjustment is clearly called for. 93 One of the risks incurred by the pipelines has been the regulatory risk that an experimental program such as advance payments might miscarry, and that administrative readjustment would not prevent substantial adverse impact. Commissioner Smith, whose vote in Tennessee was necessary to form the majority, expressly premised his concurrence on the link between treatment of advance payments and rate of return. 94 On remand the Commission will have discretion to consider this interrelationship in reaching a just result. In the other two cases before us, the rate-of-return issue was settled prior to determination of the advance payment question. If the Commission prefers to use rate of return as the vehicle for adjustment, it may consider whether it should reopen these settlement agreements. 95 Another mechanism for effecting the final just and equitable result is the ordering of only partial refunds, rather than the readjustment of rate base. The Commission retains a broad discretion in such matters. 96 96 One other significant factor that the Commission may consider in exercising its latitude on remand is the impact on the industry of the entire course of Commission action in the development and administration of the advance payment program. 97 97 It is appropriate to conclude our discussion of Latitude on Remand, before going on to subsidiary issues, to emphasize that while the court has identified a number of factors for consideration by the Commission, it is aware that the appraisal and weighing of these factors is the function of the agency and not of the court. It is not an encroachment on the agency's ultimate discretion either that the court has identified a number of factors for consideration, or that Judge Wilkey has indicated that in his view a particular emphasis should be given to certain factors. The court's role, permitting intervention for error of law or arbitrary action, still leaves the agency with a function broader in scope than the court's. 98 98 Although our ruling pertains to the rate-base determinations raised by the petitions before us, the Commission has flexibility to consolidate these with other cases, to engage in rule making, or to adopt other procedures. In the end, the Commission may choose to adopt a simplifying formula in the interests of feasible administration; but such a resolution must reflect a reasoned consideration of all the pertinent factors, demonstrating the flexibility that always has been inherent in the advance payment program. 99