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Dynegy Control of El Paso Capacity Diluted

August 2, 1999
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Dynegy Control of El Paso Capacity Diluted

FERC last week dealt a partial blow to Dynegy Marketing and Trade's control over a portion of its contracted-for capacity on El Paso Natural Gas to California, resulting in a measured victory for the state's regulators and San Juan producers. Dynegy enjoyed a triumph of sorts as well, however. The Commission upheld the bulk of its prior decision approving the whopping El Paso-Dynegy arrangement, finding that while it posed some competitive concerns, it was not "unduly discriminatory" in nature.

On rehearing, the Commission relaxed the circumstances under which El Paso shippers could recall from Dynegy the so-called Block II capacity (614 MMcf/d) to deliver gas to northern California exclusively. That particular block of capacity was included in the now-infamous contract arrangement in which Dynegy purchased 1.3 Bcf/d of unsubscribed capacity on El Paso in late 1997. Prior to that, however, Pacific Gas and Electric (PG&E) paid $54 million as part of El Paso's 1996 customer settlement to preserve the right of the pipeline's shippers to recall the Block II capacity to serve end-users in its service territory in northern California. Both sides have been battling over whose rights take precedence.

Significantly, the Commission's draft order affirmed that El Paso shippers were entitled to recall the capacity if they needed it to deliver gas to northern California while Dynegy was using it to provide service to other markets. The Block II capacity under the El Paso settlement was set aside to ensure service to northern California primarily. FERC last week said the recall provisions were an integral part of El Paso's tariff when the pipeline negotiated its arrangement with Dynegy and could not be altered by the contract.

However, in a strange twist the Commission also granted Dynegy the ability to call back the Block II capacity if it is to be used to serve end-users in northern California. ".....[I]f Dynegy wishes to use any of the Block II capacity to serve northern California that other shippers have recalled for the same purpose, [it] may in turn recall the capacity for its own use" upon giving a 24-hour notice, it said [RP97-28-019].

Dynegy was "still analyzing" the changes made on rehearing, but "I don't think that they are debilitating," said Peter Esposito, vice president and regulatory counsel at Dynegy. "They're not the type at least at first blush --- we have to talk to El Paso yet --- that makes the contract useless," he told NGI. "Our intent has always been to use the primary points [north of the system] to serve northern California," he noted. Although he didn't want to rule out the possibility of Dynegy seeking rehearing, Esposito said he didn't see a "screaming need" for it.

In its June 1998 order approving the El Paso-Dynegy contract, the Commission recognized that El Paso shippers had recall rights to the Block II capacity but only on a limited basis. Last week's decision lifted some of the restrictions that had been imposed previously on the El Paso shippers, making it easier for them to seek recall. El Paso shippers were defined as either end-users in northern California or sellers of gas/capacity to that market.

Probably most important, FERC reversed itself and found that El Paso shippers could exercise the recall option on Block II capacity even when other capacity was available on either El Paso or competing systems to northern California. Previously it held that shippers had to exhaust all other avenues before they could seek recall of the Block II capacity. But that "conclusion in the prior order [was] inconsistent with the 1996 [El Paso] settlement..."

In recalling capacity from Dynegy, El Paso shippers would be required to pay the maximum rate to contract for one month or less, and "at least" 12 cents Dth/d for more than one month, the order said. "[I]n neither case is Dynegy's position likely to be threatened as long as it has sales in northern California and can use the capacity for its own use..."

The Commission also reversed its prior ruling that shippers could only recall Block II capacity on terms that were acceptable to El Paso. It said the pipeline was bound by its tariff provisions, which require it to recall Block II capacity if the shippers requesting the capacity "at least match the rate in the contract covering the capacity to be recalled and subscribe [to] such capacity for more than one month." These tariff provisions are "clearly obligatory in nature," the draft order noted. ".....El Paso may not withhold the capacity to obtain a higher rate as long as the [price bid by shippers] at least matches the price for which the capacity was sold" to Dynegy.

Right to Hold Idle Capacity Upheld

Responding to a request by the California Public Utilities Commission (CPUC), the Commission, however, upheld the right of Dynegy to withhold "idle" Block II capacity from the California market. "If the capacity is idle but is not being used [by Dynegy] to serve areas outside of northern California, under current Commission policy Dynegy may hold the capacity without any obligation to release it," the draft order said.

The CPUC argued that withholding capacity from the California market violated the 1996 settlement with El Paso because it allowed Dynegy to engage in the hoarding of capacity. But FERC countered that CPUC's position didn't "reflect the language of the 1996 settlement."

Although the Commission conceded some ground on the recall issue, it held firm to its previous finding that the El Paso-Dynegy contract arrangement was neither "unjust or unreasonable nor unduly discriminatory." It further rejected the requests of Exxon Co. U.S.A. and other major producers for FERC to subject the contract to a more rigorous review using antitrust principles.

Since early 1998, producers have voiced a number of concerns over the Dynegy contract, which required the Houston marketer to pay for at least 50% of the 1.3 Bcf/d capacity in 1998 ($28 million) and 72% in 1999 ($42 million). Aside from the sheer magnitude of the contract, producers have been most troubled by the Reservation Reduction Mechanism (RRM) in the agreement, which requires El Paso to credit to Dynegy revenues generated from its sales of interruptible capacity that exceed an historical threshold. The net effect of the provision, producers complained, was to limit IT sales by El Paso, and to increase the delivered price for firm transportation to California. On rehearing, FERC affirmed that the RRM was "anticompetitive," but added that it was not "unduly discriminatory" given the "current levels of demand for gas transportation in the California market and the practical impact of the RRM in that market."

The draft order reported that about 892 MMcf/d was available to Dynegy competitors between January 1998 and January 1999, which was more than double the amount of capacity the Houston gas marketer could withhold from the market this year without incurring a penalty. "Where such a substantial amount of capacity is available.....neither Dynegy nor El Paso appears to have been able to materially influence prices," the draft order said.

And "while capacity-release prices have varied, they do not reflect the consistently high levels that might be expected if Dynegy's withholding of capacity was determining the price of transportation capacity paid by Dynegy's competitors," it noted. Any price increase in secondary-market capacity was attributed to a "reduction in the supply rather than [to] Dynegy's and El Paso's decision not to compete with each other."

Nor has Dynegy been able to "materially influence" gas sales in California, the draft order concluded. "If Dynegy possessed the market power that Exxon, the petitioners and the CPUC ascribe to it, basis differentials between the California gas sales market and the Southwest producing basins would be increasing compared to other differentials as Dynegy drove up the price of gas in California at a time that demand was increasing. This has not occurred..."

Susan Parker

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