Overhaul of Order 497 a Top Priority
FERC's marketing affiliate rule, which hinges on the hope that
pipeline owners will police themselves, has been about as effective
as a wolf guarding a henhouse, says a Washington D.C. lawyer who
represents producers and independent marketers. Because of
escalating abuses in the market, he believes overhauling Order 497
should be the first priority of the Commission in its post-Order
637 dialogue with the natural gas industry.
There "are some issues that simply will not wait. Chief among
these issues are the recurring (in fact, growing) regulatory
problems associated with pipeline-affiliate marketers," said Mark
R. Haskell, co-managing partner of Brunenkant & Haskell LLP,
last Thursday at the annual meeting of the Energy Bar Association.
Order 497 was set up to stave off abuses between pipelines and
their unregulated marketing affiliates, but it has failed miserably
in that task and the "natural gas market is the worse for it," he
"The failed regulatory model of Order 497 should be discarded in
favor of a new regime of regulation that emulates structural
separation to the maximum extent possible," he noted. Under such a
regime, "new contracts between a pipeline and an affiliated
marketer should be subject to strict scrutiny. Home pipe affiliates
shouldn't be permitted to purchase capacity that has not been
posted as being publicly available."
Also, he said, pipes shouldn't be allowed to use their marketing
affiliates to bid up the price for capacity on their system under
right of first refusal. And on the issue of "funny money,"
intra-corporate transfers of funds, a pipeline should be required
to pay non-affiliated shippers the cost it incurs by "foregoing a
business opportunity" with non-affiliates in favor of accepting a
capacity bid from its marketing affiliate. This would eliminate the
"built-in advantage" that affiliates have over non-affiliates when
bidding for capacity on their home pipeline
But even these protections may not prove to be enough in the
end. "If so, complete structural separation --- an outright ban on
a pipeline affiliate marketer's ability to do business on its home
pipeline --- must be considered" by FERC, Haskell said. Such a ban
would be a last resort since it "might upset settled investment
decisions and engender widespread opposition."
Marketing affiliates were the interstate pipelines' response to
being stripped of their merchant function under Order 636, he
noted. "As the merchant function passed into the annals of history,
coincidentally and amazingly market affiliates were produced." And
with their arrival, pipelines were able to hold onto their sales
ability, Haskell said, adding that losing it was a just a "myth."
"Some of those affiliates have developed [into] businesses that
are national in scope, with few if any ties to the home
pipelines.....Others are still living at home with Mom. They don't
want to move out." It's this latter group where the abuse or
potential for abuse flourishes, he told the group of energy
Just a "cursory review" of interstate pipeline "Index of
Customers" at FERC underscores the close relationship between some
affiliates and their parent pipelines, Haskell said. "Enron North
America is one of the largest single shippers on its affiliate
Northern Natural Gas Co. The listing of Reliant's affiliated
shippers in its most recent filing runs for pages. Not only does
Koch Energy Trading control substantial firm transportation
capacity, but it also has contracted for more than 100 Bcf of PALS
[parking and loan] service on its affiliated pipeline....."
Order 497 "was intended to curtail the built-in incentives for
affiliate abuse. [But] the basis of that policy is and was flawed.
At the heart of Order 497 is a philosophy of self-policing" by
interstate pipelines that have "undeniable economic incentives to
bend, break or 'interpret' rules in a manner sufficient to mask
anti-competitive conduct," he noted
Weakness of Order 497
While some in the industry were encouraged by the tough action
that FERC took against Kinder Morgan Inc. (KMI) in late March for
affiliate abuses, Haskell wasn't one of them. If anything, he
thinks the stipulation and consent agreement, ordering KMI to pay a
civil fine of $5.1 million and make customer refunds underscores
the weaknesses of Order 497. "The damages suffered by
non-affiliated marketers cannot be measured simply in terms of rate
refunds. Market opportunities were lost as a result of [the]
proscribed conduct," he said.
Further adding to non-affiliate shippers' woes is the fact that
interstate pipelines no longer have any "incentive" to file rate
cases. "Pipelines can collect rates based on a 10-year filing, an
eight-year filing. A pipeline can be passed around from holding
company to holding company through mergers, changing its business
risks, changing its.....overhead costs," but the same rates "are
going to remain in place," Haskell noted.
"Malcontents" are told to file complaints at FERC, but only
scant information is available at the Commission to help shippers'
substantiate their charges. "The information currently available in
pipeline Form 2 [reports] is virtually useless in this process," he
said. "Potential complainants have.....disjointed, irrelevant data
on a host of pipelines and little or no clear path of proving what
should otherwise be obvious --- pipeline rates should be subject to
periodic review under Section 5" of the Natural Gas Act.
In fact, "when pipelines are merged their rates should be
subject to review automatically, without delay." At the rate the
pipelines are going "if we have two more pipeline mergers, we could
have the first [nationwide] RTO," he quipped.
Nor is Haskell a big fan of FERC's decision to remove the price
caps on the capacity-release transactions on an experimental basis.
He said it reminded him of when his nine-year-old son tried to
convince his younger brother "to close his eyes and run real fast
while standing in front of the garage door." How can FERC call this
an experiment? he asked. "It's dangerous."
For M. Lisanne Crowley of the D.C. law firm of Crowell &
Moring LLP, which represents LDCs, "[too] many issues were left
open or subject to the pipeline's discretion" in Order 637. Haskell
agreed noting the order "leaves for another day the most
controversial issues" facing the gas industry. While this approach
of "regulatory gradualism" may have some appeal in other
industries, he said it doesn't work in a "dynamic" gas market.
Alice M. Fernandez, FERC's director of the Division of Tariffs
and Rates-East, said she expects the Commission to begin its
dialogue with the gas industry after it comes out with its
rehearing order on Order 637, which should be "relatively soon."
The gas industry "should have a busy summer" at FERC, she promised.