The Federal Energy Regulatory Commission yesterday significantlyraised the bar for interstate pipelines seeking to construct newprojects by requiring that the proposed facilities be able to standon their own financially.

In a 4-1 vote, with Commissioner Vicky Bailey dissenting, theCommission majority approved a policy statement favoringincremental pricing of pipeline projects, which would limit therecovery of construction costs strictly to those customers whowould benefit from the new facilities. The decision marks areversal in the preference for rolled-in pricing that FERC hasshown in the past four years. Under that pricing policy, pipelineswere able to recover costs also from their existing customers ifthey could show the rate impact on such customers was within 5%.

It was clearly evident there was considerable last-minutejockeying prior to Wednesday’s FERC meeting over the issue ofwhether the new incremental pricing policy would apply to pendingprojects as well as to future projects, an issue that was notspecifically addressed in the policy statement. In a jointconcurring opinion, Commissioners Curt Hebert and Linda Breathittand Chairman James Hoecker said they favored applying the newincremental pricing policy to all project applications filed fromJuly 29, 1998 – the date the notice of proposed rulemaking (NOPR)was issued – forward, which would exclude the controversialMillennium Pipeline and Independence Pipeline (and associatedSupplyLink and MarketLink) projects. Commissioner William Masseydisagreed with his colleagues, arguing that the new policystatement instead should apply to any future certificate decision,regardless of when the application was filed.

Hebert conceded he would have preferred the policy statement toapply only to future project applications, but he agreed to theNOPR date as the cutoff “in the interest of passing the policy.”Even Hoecker acknowledged that he consented to the NOPR date “inthe spirit of compromise.” Although FERC’s practice has been toapply policy statements immediately to any future decisions,Hoecker reasoned that “in this particular case, given the number ofpending proceedings and so forth, it seems appropriate to apply it”only to post-NOPR project applications.

The policy statement establishes “a threshold requirement thatpipeline certificate projects must be financially viable withoutsubsidies from ratepayers, or the Commission will not process theapplication,” noted Massey. This policy on incremental pricing”will provide the most accurate price signals as to when a newproject is truly needed. It will obviate the need some pipelineproject sponsors have felt to segment their projects in order tocome within the 5% rate increase threshold [for rolled-in rates].Finally, the no-subsidy policy will provide much needed disciplineon the risk of overbuilding of capacity.”

The policy statement doesn’t totally preclude rolled-in pricing,however. “There will be circumstances where we will permitrolled-in pricing, but not as a general policy as we have in thepast,” Hoecker said. Rolled-in pricing, for example, may bepermitted “in cases where facilities can be expanded cheaplybecause of earlier [more] costly construction,” a FERC staff membersaid.

In addition to the change in pricing policy, the Commission saidit will factor in three additional elements when determining theneed for new pipeline construction: 1) the interests of landownersin the surrounding communities; 2) the interests of the existingcustomers of the pipeline applicant; and 3) the interests ofexisting pipelines that already serve the market that the newproject seeks to serve. “The weight that will be given by thevarious Commissioners to the need factors is the real wildcard,”remarked Breathitt. She said she looked forward with “sometrepidation” to the first project to be decided under the newpolicy statement.

There is one aspect of the policy statement that pipelinesprobably will like. FERC no longer will ask pipes to show contractsor precedent agreements to justify market need for projects. In thepast, pipelines were required to have at least 25% of the proposedcapacity of a project under contract in order for the Commission toprocess their applications. Although contracts or precedentagreements still will remain “important evidence” of demand for newprojects, FERC now will require project applicants to submit marketstudies.

In her dissent, Commissioner Bailey said the policy statementwas as much about a change in FERC’s pricing policy as it was aboutthe Commission’s need analysis for pipeline construction projects.”I do not disagree…..that incremental pricing is consistent withthe idea of allowing markets to decide [new pipe projects]. I alsorecognize that it can protect customers from unwarranted subsidiesand insulate existing pipelines from subsidized competition.However, I find the policy statement to be far too categorical inits approach, and I am not persuaded that we should depart from outexisting policy statement on pricing,” which favors rolled-in ratetreatment.

“Thus, while I can agree…..on the articulated goals such aspricing should allocate risk appropriately and, if done properly,it can assist in avoid construction of excess capacity, I would notadopt a threshold requirement that virtually precludes [the] use ofrolled-in rates,” Bailey said. She noted that she was “at a loss toexplain the genesis of this particular outcome” in the policystatement.

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