LA Pub Svc Cmsn v. FERC

United States Court of Appeals

FOR THE DISTRICT OF COLUMBIA CIRCUIT

Argued December 4, 1998 Decided August 6, 1999

No. 97-1661

Louisiana Public Service Commission,
Petitioner

v.

Federal Energy Regulatory Commission,
Respondent

Mississippi Public Service Commission, et al.,
Intervenors

On Petition for Review of Orders of the
Federal Energy Regulatory Commission

Michael R. Fontham argued the cause for petitioner.
With him on the briefs was Noel J. Darce.

Larry D. Gasteiger, Attorney, Federal Energy Regulatory
Commission, argued the cause for respondent. With him on

the brief were Jay L. Witkin, Solicitor, and John H. Conway,
Deputy Solicitor.

Earle H. O'Donnell argued the cause for intervenor Occi-
dental Chemical Corporation. With him on the briefs was
Roger St. Vincent.

John S. Moot argued the cause for intervenor Entergy
Services, Inc. With him on the brief were William S. Scher-
man, Gerard A. Clark and J. Wayne Anderson.

Glen L. Ortman argued the cause for intervenors City
Council of New Orleans, et al. With him on the brief were
Clinton A. Vince, Mary W. Cochran, Paul R. Hightower and
George M. Fleming.

Before: Ginsburg, Henderson, and Rogers, Circuit Judges.

Opinion for the Court filed by Circuit Judge Ginsburg.

Ginsburg, Circuit Judge: The Louisiana Public Service
Commission petitions for review of two orders of the Federal
Energy Regulatory Commission dismissing its complaint
against Entergy Services, Inc., which owns operating compa-
nies that generate and sell electricity in Louisiana and other
states. The LPSC claims that Entergy may not count inter-
ruptible service when allocating capacity costs pro rata
among its operating companies because interruptible service,
unlike firm service, does not require Entergy to add new
capacity. The Commission held that interruptible service is
properly assessed responsibility for capacity costs and, in the
alternative, that the LPSC was not entitled to a hearing on its
complaint because it had not alleged that the overall "rough
equalization" of costs among the operating companies has
been upset.

We hold that it was arbitrary and capricious for the Com-
mission to assess capacity costs for interruptible service
without an explanation for departing from its own precedent.
In addition, because we are unable on this record to discern
what the Commission meant by "rough equalization," we
remand the case for the agency to explain its reasoning on
that score as well.

 I. Background

Entergy, a public utility holding company, owns five operat-
ing companies that generate and sell electricity in four states,
including Louisiana. Transactions among the operating com-
panies are governed by a system agreement they first en-
tered into in 1951 and last amended in 1982, when it was
approved by the Commission and this court after protracted
litigation.* Section 3.01 of the agreement sets forth the
general goal of the companies to act as a single economic unit:

The purpose of this Agreement is to provide the
contractual basis for the continued planning, construc-
tion, and operation of the electric generation, transmis-
sion and other facilities of the Companies in such a
manner as to achieve economies consistent with the
highest practicable reliability of service.... This agree-
ment also provides a basis for equalizing among the
Companies any imbalance of costs associated with the
construction, ownership and operation of such facilities as
are used for the mutual benefit of all the Companies.

The system agreement allocates capacity (or demand) costs
to each operating company in direct proportion to the power
that it takes when total demand upon the Entergy system
peaks each month. If, at the monthly system peak, a compa-
ny takes more energy than it generates, then it is considered
"short" and must make an equalizing payment to the "long"
companies that have provided the excess capacity. This
arrangement is mutually beneficial because companies that
are long have a ready outlet for their surplus energy and are
thereby compensated for carrying excess capacity, while com-
panies that are short enjoy the benefit of a low cost and

__________
* See Middle South Energy, Inc., 31 F.E.R.C. p 61,305, reh'g
denied, 32 F.E.R.C. p 61,425 (1985), aff'd, Mississippi Indus. v.
FERC, 808 F.2d 1525 (D.C. Cir.), vacated in part after recons., 822
F.2d 1104 (D.C. Cir.) (in banc), order on remand, System Energy
Resources, Inc., 41 F.E.R.C. p 61,238 (1987), reh'g denied, 42
F.E.R.C. p 61,091 (1988), aff'd, City of New Orleans v. FERC, 875
F.2d 903 (D.C. Cir. 1989).

dependable way of meeting their energy requirements. See
Mississippi Indus., 808 F.2d at 1528-31.

The LPSC filed a complaint against Entergy under s 206
of the Federal Power Act, 16 U.S.C. s 824e(a), alleging that,
due to changed circumstances, the allocation of capacity costs
had become unjust and unreasonable. The Commission held
the allegedly changed circumstances insufficient to warrant
investigation and dismissed the complaint. See Louisiana
Pub. Serv. Comm'n v. Entergy Servs., Inc., 76 F.E.R.C.
p 61,168 (1996), reh'g denied, 80 F.E.R.C. p 61,282 (1997).
The LPSC now petitions for review of the Commission's
decision and Occidental Chemical Corporation intervenes on
its behalf. Entergy and a group consisting of two state
agencies and the City Council of New Orleans (collectively
the state agencies) intervene on behalf of the Commission.

II. Analysis

The LPSC claims principally that the Commission should
have scheduled a hearing on its complaint. In general, the
Commission must hold an evidentiary hearing whenever a
complainant raises a genuine issue of fact that is material to
the justness and reasonableness of a rate and cannot be
resolved upon the written record. The mere allegation of a
disputed fact is insufficient to command a hearing, of course;
the petitioner must proffer evidence in support of its factual
claim. We review a Commission decision to deny an eviden-
tiary hearing for abuse of discretion. See Cajun Elec. Power
Coop. v. FERC, 28 F.3d 173, 177 (D.C. Cir. 1994).

In this case the Commission accepted all the LPSC's
factual allegations as true--they are supported by an ade-
quate proffer of evidence--and dismissed the complaint on
the ground that those facts did not justify reopening the
Agreement. Accordingly, we too accept the LPSC's factual
allegations as true and turn directly to the question whether
the manner in which the Commission addressed them was
arbitrary and capricious. See Sithe/Independence Power
Partners, L.P. v. FERC, 165 F.3d 944, 948 (D.C. Cir. 1999).

A. Interruptible Load and Capacity Costs

Capacity costs "are assessed to the peak-period users
because it is peak demand that determines how much a utility
will invest in capacity." Union Elec. Co. v. FERC, 890 F.2d
1193, 1198 (D.C. Cir. 1989). During the off-peak periods the
capacity is available at no marginal cost; it "would be there
whether or not the off-peak user made demands on it." 1
Alfred E. Kahn, The Economics of Regulation 101 (1970). A
utility's decision to invest in additional capacity is therefore
informed by the type of demand placed upon the system at its
peak. As we have previously observed:

Electric utilities often distinguish between "firm" ser-
vice, under which customers can demand power or trans-
mission at any time, and "interruptible" service, which
the utility is entitled to shut off at any point when there
is not enough excess capacity beyond that required to
guarantee the needs of the utility's firm customers. In-
terruptible service is typically offered at a significant
discount because the utility's ability simply to cut off
service at peak demand periods alleviates its need to plan
for and finance additional capacity to offer the service.

Fort Pierce Util. Auth. v. FERC, 730 F.2d 778, 785-86 (D.C.
Cir. 1984).

The Commission firmly embraced this principle of cost
causation in Kentucky Utilities Co., 15 F.E.R.C. p 61,002
(1981), where it persuasively set out its rationale for not
considering interruptible service when allocating capacity
costs. In that case KU had the right, by agreement, to
interrupt service to the City of Paris. The utility argued that
it should be able to charge Paris capacity costs whenever it
supplied electricity to Paris at peak. The Commission flatly
rejected this position, reasoning that "because of the right to
interrupt, Kentucky can keep Paris from imposing any de-
mand on Kentucky's system during peak periods and thereby
control its capacity costs." Id. at 61,004; see also Delmarva
Power & Light Co., 24 F.E.R.C. p 61,199, 61,462 (1983) (fol-
lowing Kentucky Utilities).

 The Entergy system agreement does not distinguish be-
tween interruptible and firm load in allocating capacity costs
to the operating companies. Doing so was unnecessary when
the agreement was last amended, apparently because the
system was then awash in capacity; even projected firm load
did not require additional future capacity.

The LPSC alleges, however, that changed circumstances
now make it unjust and unreasonable for Entergy to continue
counting interruptible load when calculating an operating
company's capacity charge. First, the system no longer has
surplus capacity; it even purchases electricity from other
sources in order to maintain its reserve requirements during
the months when demand is greatest. Second, Entergy has
changed its planning criteria and no longer counts interrupti-
ble load when deciding whether to add capacity. Neither
point is contested, and both are supported by affidavits
attached to the LPSC's complaint; the second point is further
supported by the testimony of an Entergy executive given in
a retail rate proceeding before the LPSC.

In its order dismissing the complaint the Commission rea-
soned that "the mere fact that a load may be curtailable does
not mean that it should not be considered in allocating costs"
if power is in fact taken at peak. Louisiana PSC, 76
F.E.R.C. at 61,955-956. Sound familiar? This is the argu-
ment the agency rejected in Kentucky Utilities. See 15
F.E.R.C. at 61,004 ("Although Kentucky has not interrupted
service to Paris at every peak period, this is irrelevant to the
application of the peak responsibility method"). Presumably
for that reason the Commission appended a somewhat cryptic
footnote to its decision, citing testimony in which an Entergy
executive said that the allocation of current, as opposed to
future, capacity costs presents "a different issue." Louisiana
PSC, 76 F.E.R.C. at 61,956 n.9. Similarly, the state agencies
argue in the present case that planning for future capacity is
immaterial to how the costs of existing capacity should be
allocated, and Entergy asserts that avoidance of future costs
does not warrant an investigation today.

 These arguments fail to recognize that the cost-causation
principle the Commission adopted in Kentucky Utilities is
inherently forward-looking. As the Commission itself ex-
plained in Kentucky Utilities, "[t]he theory is that the utility
must build bulk power facilities, i.e., generating units and
transmission lines, in large part to meet the maximum or
peak anticipated demands of its customers." Kentucky Util.,
15 F.E.R.C. at 61,003 (citing James C. Bonbright, Principles
of Public Utility Rates 352 (1961), 1 Kahn, Economics of
Regulation 89-95). This is how Professor Alfred E. Kahn
explains the point:

Marginal costs look to the future, not to the past: it is
only future costs for which additional production can be
causally responsible; it is only future costs that can be
saved if that production is not undertaken. If capital
costs are to be included in price, the capital costs in
question are those that will have to be covered over time
in the future if service is to continue to be rendered.

1 Kahn, at 88; see Fort Pierce, 730 F.2d at 787 ("The clear
import of the Commission's decision in Kentucky Utilities is
that the allocation of capacity costs to transmission service
must ordinarily be justified on the basis of the transmitting
utility's inability to avoid service at peak demand and its need
to plan future capacity based in part on the transmission
service at issue").

Pursuing a different but no less fallacious line of reasoning,
the Commission claims in the alternative that it need not
follow Kentucky Utilities here because that case

dealt with how a utility recovers fixed costs from custom-
ers that bought at arm's-length. Since the purchaser
itself was an interruptible customer, we found that it
should bear none of the seller's fixed costs. Here, in
stark contrast, the rate at issue allocates the costs of an
integrated system among its constituent parts. While
ostensibly "purchasers," the Entergy operating compa-
nies in reality comprise the seller, the Entergy system.

Louisiana PSC, 80 F.E.R.C. at 62,007. Although the Com-
mission does not explain what it thinks follows from this
distinction between arm's-length and affiliated purchasers, its
position seems to be that, because the Entergy system may
be viewed as a single seller at retail, the Commission need not
regulate antecedent wholesale transactions among the operat-
ing companies.

If that is the point, we reject it out of hand. As we have
held before, and as the Commission itself has long insisted, it
alone has jurisdiction to regulate wholesale transactions
among Entergy's operating companies. See Mississippi In-
dus., 808 F.2d at 1540. And as to matters within its jurisdic-
tion, the Commission has the duty--not the option--to reform
rates that by virtue of changed circumstances are no longer
just and reasonable. See id. at 1557; 16 U.S.C. s 824e(a).
Moreover, "once FERC permits a utility to charge a rate
reflecting investment in a particular plant, a state commission
may be obliged to reflect such an investment in the retail rate
base." Mississippi Indus., 808 F.2d at 1548. Consequently,
if the allocation of costs among the operating companies is
unjust or unreasonable, then retail customers in one regulat-
ing jurisdiction effectively subsidize those in another.*

We therefore hold that the Commission's 180 degree turn
away from Kentucky Utilities was arbitrary and capricious.
For the agency to reverse its position in the face of a
precedent it has not persuasively distinguished is quintessen-
tially arbitrary and capricious. See Motor Vehicle Mfrs.
Ass'n v. State Farm Mut. Auto. Ins. Co., 463 U.S. 29, 57
(1983) ("An agency's view of what is in the public interest

__________
* In response to a similar concern raised in Mississippi Indus-
tries, we observed that "[i]n any wholesale rate proceeding, the
state commissions may protect their interests [by] presenting evi-
dence before the Commission, a neutral body." Id. In making that
observation, however, we presumed the Commission would not
abdicate its exclusive jurisdiction over wholesale rates. See South-
ern Cal. Edison Co. v. FERC, 162 F.3d 116, 118 (D.C. Cir. 1998)
(rejecting Commission's argument that, because petitioner's interest
stemmed from downstream effect on retail rates, Commission
lacked jurisdiction over wholesale allocation of costs in settlement).

may change, either with or without a change in circum-
stances. But an agency changing its course must supply a
reasoned analysis"). If there is any reason interruptible load
should be considered in the assessment of capacity costs, it
has not been articulated either by the Commission or by its
claque in this proceeding.

B. Rough Equalization

In denying rehearing the Commission, perhaps hoping to
insulate from legal consequence its failure to follow Kentucky
Utilities, adopted an alternative rationale: that the LPSC
was not entitled to a hearing because it had not alleged that
the change in circumstances had upset the "rough equaliza-
tion" among the operating companies achieved by the system
agreement. See Louisiana PSC, 80 F.E.R.C. at 62,007. The
LPSC responds that the standard in the Federal Power Act
is not rough equalization but whether the cost allocation is
unjust, unreasonable, or unduly discriminatory. See 16
U.S.C. s 824e(a).

In order to function as a reviewing body the court must be
"advised of the considerations underlying the action under
review." SEC v. Chenery Corp., 318 U.S. 80, 94 (1943).
Though it is eminently reasonable for the Commission to
require some showing of materiality before it investigates the
allegations made in a complaint, we cannot on this record tell
how rough (that is, unequal) the agency thinks the equaliza-
tion must be before it grants a hearing--and the equalization
in this case seems pretty rough. See Philadelphia Gas
Works v. FERC, 989 F.2d 1246, 1251 (D.C. Cir. 1993) ("For
FERC to utter the words 'unique facts and circumstances'
and 'equity,' ... as a wand waved over an undifferentiated
porridge of facts, leaves regulated parties and a reviewing
court completely in the dark as to the core of FERC's
reasoning and its relationship to past precedent").

The LPSC attached to its complaint an affidavit stating
that Louisiana Power & Light places nearly 1,000 MW (or 1
million KW) of interruptible load upon the system at a
capacity cost of $1 to $2 per KW-month, whereas other
operating companies place very little interruptible load upon

the system. Compl. Ex. C. Assuming, as is clearly implied,
that all of this interruptible power is taken at peak, the
imbalance results in $12 to $24 million per year in demand
charges erroneously allocated to Louisiana ratepayers. The
Commission does not rebut nor even cast doubt upon these
data, other than to point to its own conclusory statement on
rehearing that neither the LPSC nor Occidental claims En-
tergy's allocation of capacity costs upsets the rough cost
equalization among the operating companies. See Louisiana
PSC, 80 F.E.R.C. at 62,007.

Instead the Commission, joined by Entergy, argues that
the allocation of capacity costs to interruptible load is but one
component of a complex rate. In this connection the Com-
mission observes that in Arkansas Pub. Serv. Comm'n v.
Entergy Servs., Inc, 76 F.E.R.C. p 61,040 (1996), when it
granted a hearing upon the allegation that "Arkansans, who
make up 31 percent of the Entergy system's load, bear[ ]
approximately 62 percent of the Entergy system's total nucle-
ar plant decommissioning costs," id. at 61,197, it set down for
hearing the question "whether changes in other system costs
may offset increases in nuclear plant decommissioning costs."
Id. at 61,198. In that case, however, the Commission did not
fault the petitioner for failing to allege that no other elements
of the rate could offset the facially significant charges of
which it complained; rather, the agency quite reasonably set
the issue of offsetting changes in costs down for hearing at
the request of the respondent utility.

Entergy also cites Houlton Water Co., 55 F.E.R.C. p 61,037
(1991) (Houlton I), in which the Commission refused to grant
a hearing to a petitioner that challenged only one aspect of a
utility's rate without alleging that the entire rate had become
unreasonable. We note that subsequently the petitioner filed
another complaint supported by additional cost data indicat-
ing that the utility was overcharging its ratepayers by
$567,400 annually, which showing the Commission held suffi-
cient to warrant a hearing. See Houlton Water Co., 58
F.E.R.C. p 61,301 (1992) (Houlton II). The principal ratio-
nale of both Houlton cases seems to have been that a
petitioner "must provide some basis to question the reason-
ableness of the overall rate level, taking into account changes

in all cost components." Houlton I, 55 F.E.R.C. at 61,110;
see also Houlton II, 58 F.E.R.C. at 61,963. If an alleged
annual overcharge of $567,400 was sufficiently material to
warrant a hearing in that case, then we are at a loss to
understand why the $12 to $24 million annual difference
alleged here fails to provide "some basis to question the
reasonableness of the overall rate level," Houlton I, 55
F.E.R.C. at 61,110, granting, of course, that it does not
preclude the possibility that there might be offsetting
changes in other costs. Moreover, even if Entergy is correct
that Houlton I stands for the proposition that the Commis-
sion requires a complainant to support its petition with an
analysis of all components of the overall rate, we do not see
how such a rule can be squared with the result the Commis-
sion later reached in Arkansas PSC. As discussed above, in
that case the Commission did not require the petitioner,
which had alleged a facially significant disparity arising from
changed circumstances, to submit data tending to negate the
possibility that there might be offsetting changes in other
costs; it merely held that the hearing "also should take into
account whether changes in other system costs may offset
increases in [the] costs" that the Arkansas PSC had chal-
lenged. Arkansas PSC, 76 F.E.R.C. at 61,198.

For these reasons, we think the Commission's position that
the LPSC has failed to allege a departure from the rough
equalization of costs among the operating companies is unre-
sponsive to the LPSC's claim that the method of allocating
costs provided in the system agreement has become unjust
and unreasonable. The opacity of the Commission's terse
orders, however, makes it impossible for us to discern the
content of its "rough equalization" standard. (We are re-
minded of what Lord Byron wrote of Coleridge: "like a hawk
encumber'd with his hood, Explaining metaphysics to the
nation--I wish he would explain his Explanation." Don
Juan, canto I, dedication, stanza 2.) The Commission must
explain its rough equalization standard on remand and then
either reveal why the LPSC's allegation of an unjust and
unreasonable method of allocation with facially significant
consequences does not meet that standard, or grant the
LPSC a hearing, as the case may be.

C. PURPA

The Public Utilities Regulatory Policy Act of 1992 requires
states to consider--but not to adopt--economically efficient
practices such as offering consumers "an interruptible rate
which reflects the cost of providing interruptible service." 16
U.S.C. s 2621(d)(5). The LPSC claims it has implemented
this section of the PURPA (as well as another, which we need
not discuss for the result is the same) and that the Commis-
sion's orders impermissibly conflict with the PURPA. For-
mulating the issue another way, the LPSC asserts that the
asserted conflict with the PURPA violates principles of feder-
alism because it amounts to a "reverse trapping" of costs at
the retail level. "Trapping" at the wholesale level occurs
when a state exercises its "jurisdiction over retail sales to
prevent the wholesaler-as-seller from recovering the costs of
paying the FERC-approved rate." Nantahala Power &
Light Co. v. Thornburg, 476 U.S. 953, 970 (1986) (holding such
"trapping" prohibited by Supremacy Clause). The LPSC
asserts that the Commission's refusal to implement the
PURPA, combined with the LPSC's own adoption of those
standards, leaves unrecoverable at the retail level costs that
must be paid under the wholesale tariff, or in this instance
the system agreement.

The Commission claims this second formulation is raised
for the first time on review and therefore waived. We need
not resolve the waiver question, however, because both ver-
sions in substance make the same argument, which lacks any
merit. The Congress, perhaps mindful that the Commission
could be faced with 50 separate regulatory regimes affecting
any policy it might implement, specifically provided that the
PURPA does "not apply to the operations of an electric utility
... to the extent that such operations ... relate to sales of
electric energy for purposes of resale." 16 U.S.C. s 2612(b);
see also Cities of Bethany v. FERC, 727 F.2d 1131, 1137 (D.C.
Cir. 1984) ("Nothing in the [PURPA] requires FERC to
adopt the views of state rate-setting commissions when the
Commission evaluates the reasonableness of rates that a
utility may charge to wholesale customers").

 It is apparent, therefore, that the LPSC's implementation
of the PURPA does not bind the Commission in this case.
The Congress has expressly precluded that result.

III. Conclusion

The Commission's unexplained failure to follow its prece-
dent in Kentucky Utilities is arbitrary and capricious. The
Commission needs to give a reasoned explanation of its
seemingly obscure standard of "rough equalization," and to
apply that standard to the facts alleged by the LPSC. Ac-
cordingly, the petition for review is granted, the orders of the
Commission are vacated, and this matter is remanded to the
Commission for further proceedings consistent herewith.

So ordered.