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Affiliate Abuse Concerns Rise with Energy Mergers, Report Says

Affiliate Abuse Concerns Rise with Energy Mergers, Report Says

With the high incidence of inter-marrying between the natural gas and electric markets, the number of affiliate shippers on interstate gas pipelines has grown commensurately while the ranks of independent shippers have dwindled, raising the level of "concern" among regulators and some industry players about pipeline affiliate transactions.

"The number of 'truly' independent shippers is very small and likely to grow smaller as 'energy market convergence' forces gas [pipeline] companies to [venture into] other energy services, and regulators broaden the definition of affiliates from gas marketers to include electric marketers, generators and utilities," according to a new report by Energy and Environmental Analysis Inc. (EEA), an Arlington, VA, energy consulting firm.

The trend toward increasing affiliate transactions "is an issue that's being discussed in almost every meeting between shippers and FERC, and also at the state commissions," said EEA Director Bruce Henning, who expects it to be "vetted more fully" at the technical conferences that FERC staff will hold on Order 637 issues, the first of which is set for Sept.19. The issue has become "more important as a result of [concerns] on the electric side, where there have been more clear-cut allegations of particular problems."

At the core of the debate is whether the rise in the number of affiliate companies could be paving the way for a greater incidence of problems involving pipeline affiliates. Undoubtedly, there will be more opportunities for affiliate-abuse problems to occur simply because there are more affiliates. But whether that will lead to more actual affiliate abuse is another thing, said Henning, who noted that such allegations generally are difficult to prove.

"It is always possible to identify transactions where an affiliate made a 'good' deal compared to the rest of the marketplace. [But] affiliates also enter transactions that lose money, just like everyone else. There is sufficient evidence to illustrate any of the different points of view, but, so far, there does not appear to be sufficient evidence to prove any of the concerns" about potential abuse.

He cited Dynegy Marketing and Trade's contract on El Paso Natural Gas as an example. "There were a significant number of complaints when Dynegy contracted for a large piece of capacity on El Paso. The raw data indicated that the average basis increased in the wake of that purchase. But was that price behavior evidence of the exercise of market power or a result of tightening market conditions? Opinions vary and the debate remains," noted the EEA's "Pipeline Data Report," which provides pipeline and storage capacity data on 30 key pipelines on a monthly basis.

The debate "intensified" even further, it said, when El Paso affiliate, El Paso Merchant Energy, took over the 1.3 Bcf/d of California-bound transportation capacity that had been held by Dynegy. Although affiliate market power in this case was never established, "it's a concern [in the market]. It could lead to affiliate abuse, and the question is how do you prove it and what is the regulator's role to prevent it in advance of that occurring."

The existing data that pipelines are required to file at FERC is of little help in proving suspicions of affiliate market power, Henning said, because it routinely shows that pipeline marketers and unaffiliated marketers pay "very, very similar rates in terms of discounted services." In addition to pricing data, the other barometers for determining the existence of affiliate market power are the degree of market concentration particularly in certain geographical markets, as well as the consolidation of shippers along long-line pipeline routes. The Commission uses the Department of Justice threshold test (2500 HHI) to gauge market concentration, he noted, but "whether or not that's an arbitrary line in the sand is debatable."

Henning believes FERC already has taken some important steps to limit affiliate favoritism. He noted the Commission's order approving the Dominion Resources-CNG merger was important because it expanded the definition of affiliates to include more than just pipeline marketing companies, and made them all subject to its regulations barring affiliate preference. FERC "made it clear that it will now consider its regulations to apply to all affiliates within the corporate familing across energy types," including "regulated gas distribution or pipeline companies affiliated with electric generation or distribution companies."

Also, he thinks the Order 637 data that pipelines must begin filing at FERC by Sept. 1 --- available capacity, contracts and affiliates --- will help somewhat. "The more you know.....the more you're going to be able to identify whether or not there is a problem," Henning said.

Susan Parker

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