The Federal Energy Regulatory Commission voted out a proposed rule last Wednesday that signals a major shift in how interstate natural gas pipelines will determine their shippers’ creditworthiness in the future.

In a notice of proposed rulemaking (NOPR), the Commission spelled out a set of minimum standards that interstate pipelines must follow when assessing the creditworthiness of their shippers [RM04-4]. This was an about-face for FERC, which in the past had rejected requests by some gas industry members to establish generic creditworthiness standards.

The proposed rule also marks a big change for gas pipelines, which until now have been able to tailor their own creditworthiness standards in their tariffs. If disputes arose with shippers, FERC dealt with these on a case-by-case basis.

The NOPR seeks to incorporate 10 standards that were developed voluntarily at the agency’s request by the Wholesale Gas Quadrant of the North American Energy Standards Board (NAESB), and would adopt additional regulations involving the creditworthiness issue on pipelines.

Specifically, the proposed rule establishes standardized criteria for the types of financial information and other data that shippers must give pipelines to show they are creditworthy, requires pipelines’ creditworthiness decisions to be based on objective and transparent criteria, specifies the collateral requirements for service on existing and expanded pipe facilities, sets the timelines in which pipelines can suspend or terminate a shipper’s service, and offers standards governing capacity-release transactions.

Information that pipes can request from their shippers includes: audited financial statements; annual reports; list of affiliates, parent companies and subsidiaries; publicly available credit report information from credit/bond rating agencies; bank references; trade references; statement of legal composition; statement of length of time business in operation; recently filings with the Securities and Exchange Commission; and recent publicly available interim financial statements attested to by a company’s CFO or controller.

For local distribution companies (LDCs), pipelines also can request from state regulatory agencies documents related to authorized gas supply cost-recovery mechanisms, which allow for full recovery of both gas commodity and transportation capacity costs, the proposed rule said.

FERC proposes that the collateral requirement for non-creditworthy shippers on existing pipeline facilities be “no more than the equivalent of three months’ worth of reservation charges.” Three months “corresponds to the length of time it takes a pipeline to terminate a shipper in default and [to] be in a position to re-market the capacity,” the proposed rule noted, adding that the timeline shields a pipeline against any revenue loss.

The Commission, however, seeks to continue its current policy of permitting larger collateral requirements for pipeline construction projects. For “mainline” projects, the agency “is proposing that the pipeline’s collateral requirement must reasonably reflect the reasonable risk of the project, particularly the risk to the pipeline of re-marketing the capacity should the initial shipper default.” However, it said “under no circumstance, should the collateral exceed the shipper’s proportionate share of the project’s cost.”

Moreover, the proposed rule calls for a pipeline to determine its collateral requirement prior to the start of a construction project, and to lower the amount of collateral as a shipper’s contract term is reduced.

As for “lateral line” construction, the Commission proposes to continue to allow pipelines to demand collateral up to the full cost of a project. “Unlike mainline expansions, lateral lines are built to connect one or perhaps a few shippers, and the facilities will not be of significant use to other potential shippers. The likelihood of the pipeline re-marketing that capacity in the event of a default by the shipper, therefore, is far less than for mainline construction,” the proposed rule said.

FERC is seeking industry comments on whether it should adopt standards governing collateral for loaned gas with respect to imbalances as well as with respect to services permitting the borrowing of gas, such as park and loan services.

If a shipper is found to be no longer creditworthy, the agency proposes that the shipper be given at least five business days to make an advance payment equal to one month’s service, and 30 days to satisfy the pipeline’s collateral requirements. In the event a shipper defaults on its service obligations, FERC seeks to apply the same timetable. The service of a shipper who fails to satisfy these requirements can be “suspended immediately,” the proposed rule said.

But before terminating a shipper’s contract, a pipeline would be required to give both the shipper and FERC 30 days advance notice, according to the proposed rule.

It also clarified the rights of a pipeline and replacement shipper in the event the contract of a releasing shipper is terminated. “The Commission proposes to permit a pipeline to terminate a release of capacity to the replacement shipper if the releasing shipper’s service agreement is terminated, provided that the pipeline [first] provides the replacement shipper with an opportunity to continue receiving service if it agrees to pay, for the remaining term of the replacement shipper’s contract, the lesser of: 1) the releasing shipper’s contract rate; 2) the maximum tariff rate applicable to the releasing shipper’s capacity; or 3) some other rate that is acceptable to the pipeline.”

In announcing the NOPR, Chairman Pat Wood said FERC attempted to balance the interests of interstate pipelines to obtain reasonable assurances of creditworthiness against the need to provide open-access services to shippers.

“I think it’s important to have standardization” of creditworthiness criteria to minimize the opportunity for discrimination against pipeline shippers, said Commissioner Nora Brownell.

The issue of shippers’ creditworthiness rose to the forefront in the post-Enron era, as the credit ratings of numerous energy companies were significantly downgraded. Pipelines became increasingly concerned that shippers would default on their service contracts, and imposed stricter creditworthiness standards to protect themselves.

The credit situation in the gas industry has improved, Wood noted. But the proposed standards still are needed for “those rainy days

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