FERC Thursday initiated formal Natural Gas Act (NGA) Section 5 investigations of two pipelines -- Kinder Morgan Interstate Gas Transmission LLC and Ozark Gas Transmission LLC -- based on information that indicates they significantly over-recovered their cost of service in 2008 and 2009, potentially resulting in unjust and unreasonable rates for shippers.

Based on the cost and revenue information submitted by Kinder Morgan in its 2008 and 2009 Form 2, including the dollar value of excess fuel retained by the pipeline, Federal Energy Regulatory Commission staff reported that Kinder Morgan's estimated return on equity (ROE) for 2008 was 27.10% and 29.25% for 2009 -- both well above the norm for the pipeline industry. Even excluding the fuel retained by Kinder Morgan in the two years, FERC staff said, the ROE still was above the norm -- 15.69% in 2008 and 17.81 % in 2009.

Similarly, FERC staff calculated that Ozark Gas Transmission's ROE, including revenues received from the sale of shipper-supplied gas, was 27.81% in 2008 and 31.01% in 2009. Absent sales of shipper-supplied gas, the Commission estimates Ozark Gas Transmission's ROE was 15.25% in 2008 and 25.63% in 2009.

Both pipelines were ordered to file their own full cost and revenue studies within 75 days. Spectra Energy Partners LP, Ozark's parent company, immediately responded, saying its returns in 2009 were the result of a special situation and that it is projecting lower returns for 2010 and 2011.

Commission staff said the pipelines appeared to over-recover their cost of service in the two-year period and may be charging rates that are no longer just and reasonable. In addition, "neither pipeline has an existing settlement with its customers that places a moratorium on its existing rates or requires it to file a new general Section 4 rate case in the future," a FERC staff member said.

Commissioner Philip Moeller was willing to give the two pipelines the benefit of the doubt. "I am...mindful that there may be other factors that were not considered in our analysis that could have an effect on the rates that are currently being charged by these pipelines. Pipeline fundamentals inevitably diverge from the static base year and the rates should reflect such change. Whether these changes stem from the discovery of new supply areas or reflect an evolution in shipper behavior or fluctuations in demand, the assumptions upon which rates are developed are always changing.

"The fact is that the Commission may not always be aware of these changes. Accordingly, I believe that while our analysis of Form No. 2 data is both instructive and persuasive, it is not determinative," he said. Chairman Jon Wellinghoff conceded as much as well, saying the investigations would give the agency a chance to hear the "full story."

Spectra CEO Gregory J. Rizzo said the cost and revenue study requested by FERC "will allow Ozark to update the Commission regarding the changes in costs and revenues experienced by Ozark in 2010, as well as the impact of potential changes in 2011.

"As Spectra Energy Partners has noted in its public filings and comments, Ozark did benefit in 2009 from an opportunity to transport additional natural gas volumes due to another pipeline company being offline, which increased annual revenues. Our public filings and comments also have noted lower projected revenues in 2010 for Ozark and a potential reduction in its revenues in 2011 of up to $10 million, related to increased competition from new pipelines and expiring contracts.

"I believe that when the Commission has the opportunity to review Ozark's updated financials and market information, it will determine no significant adjustment in Ozark's rates is required," Rizzo said.

The Section 5 investigations of Kinder Morgan and Ozark Gas Transmission come almost a year after the Commission initiated similar investigations of Natural Gas Pipeline Co. of America LLC (NGPL) which is also owned by Kinder Morgan, Northern Natural Gas and Great Lakes Gas Transmission Ltd. for allegedly over-recovering their cost of service by more than 20% (see Daily GPI, Nov. 20, 2009).

Wellinghoff noted that "two of the proceedings [Great Lakes and NGPL] have since resulted in uncontested settlements that provide significant benefits," such as lower rates, reduced retention factors and revenue-sharing arrangements with pipeline customers.

The Commission called for a presiding administrative law judge (ALJ) to convene a prehearing conference for Kinder Morgan and Ozark Gas within 30 days.

Because FERC lacks refund authority under Section 5 of the NGA, Wellinghoff ordered an expedited resolution of the ALJ proceedings.

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