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United States Court of Appeals
FOR THE DISTRICT OF COLUMBIA CIRCUIT
Argued May 6, 2003 Decided August 12, 2003
No. 02-1132
MISSOURI PUBLIC SERVICE COMMISSION,
PETITIONER
v.
FEDERAL ENERGY REGULATORY COMMISSION,
RESPONDENT
ENBRIDGE PIPELINES, ET AL.,
INTERVENORS
On Petition for Review of an Order of the
Federal Energy Regulatory Commission
John E. McCaffrey argued the cause for petitioner. With
him on the brief was David W. D’Alessandro. Kelly A. Daly
entered an appearance.
Lona T. Perry, Attorney, Federal Energy Regulatory
Commission, argued the cause for respondent. With her on
Bills of costs must be filed within 14 days after entry of judgment.
The court looks with disfavor upon motions to file bills of costs out
of time.
2
the brief were Cynthia A. Marlette, General Counsel, and
Robert H. Solomon, Deputy Solicitor.
James P. White and William A. Williams were on the
brief for intervenor Enbridge Pipelines.
Before: EDWARDS, SENTELLE, and GARLAND, Circuit Judges.
Opinion for the court filed by Circuit Judge GARLAND.
GARLAND, Circuit Judge: For the second time, petitioner
Missouri Public Service Commission seeks review of initial
rates approved by the Federal Energy Regulatory Commis-
sion (FERC) for natural gas transportation by the Kansas
Pipeline Company. On the last occasion, we rejected as
arbitrary and capricious the reasons FERC gave for approv-
ing the challenged rates. On remand, the Commission reaf-
firmed the same rates, albeit emphasizing different rationales.
We once again find FERC’s reasoning arbitrary and capri-
cious. Accordingly, we vacate its orders and remand the case
for further proceedings consistent with this opinion.
I
The lengthy and complex procedural history of this case is
explained in detail in the FERC orders under review, and in
our previous opinion, Missouri Public Service Commission v.
FERC, 234 F.3d 36 (D.C. Cir. 2000) [hereinafter Missouri I].
We provide only a brief summary here.
The Natural Gas Act (NGA) grants FERC jurisdiction over
the transportation of natural gas in interstate commerce. 15
U.S.C. § 717(b); see also 42 U.S.C. § 7172(a)(1)(C). Section
7 of the NGA bars the ‘‘transportation or sale of natural gas[ ]
subject to the jurisdiction of [FERC],’’ except under a ‘‘certif-
icate of public convenience and necessity issued by the Com-
mission.’’ 15 U.S.C. § 717f(c)(1)(A). The section further
gives the Commission the ‘‘power to attach to the TTT certifi-
cate TTT such reasonable terms and conditions as the public
convenience and necessity may require.’’ Id. § 717f(e). Un-
der that authority, FERC employs a ‘‘public interest’’ stan-
dard to determine the initial rates that a pipeline may charge
for newly certificated service. See Atlantic Refining Co. v.
3
Public Serv. Comm’n, 360 U.S. 378, 391 (1959). Those initial
rates ‘‘offer a temporary mechanism to protect the public
interest until the regular rate setting provisions’’ of § 4 of the
NGA, 15 U.S.C. § 717c, come into play. Algonquin Gas
Transmission Co. v. Federal Power Comm’n, 534 F.2d 952,
956 (D.C. Cir. 1976); see Atlantic Refining, 360 U.S. at 391–
92. Section 4 requires rates to be ‘‘just and reasonable,’’ 15
U.S.C. § 717c, rather than merely in the ‘‘public interest’’ as
required by § 7. See Atlantic Refining, 360 U.S. at 390–91.
In 1995, FERC determined that three affiliated and inter-
connected natural gas pipelines of the Kansas Pipeline Com-
pany system (KPC or ‘‘Kansas Pipeline’’) constituted a single
interstate pipeline system subject to FERC jurisdiction under
the NGA. KansOk P’ship, 73 F.E.R.C. ¶ 61,160 (1995). The
Commission ordered KPC to file an application for § 7 certifi-
cation to operate the pipeline system and transport gas in
interstate commerce. In 1998, FERC approved KPC’s exist-
ing contractual rates (the ‘‘Motion Rates’’) as the pipeline’s
initial rates for service under NGA § 7, pending completion of
a rate case under NGA § 4 to determine just and reasonable
rates. See Kansas Pipeline Co., 83 F.E.R.C. ¶ 61,107 (1998)
[hereinafter 1998 Order]. The Missouri Public Service Com-
mission (‘‘Missouri PSC’’) — a Missouri agency with jurisdic-
tion to regulate rates and charges for the sale of natural gas
to consumers within the State of Missouri — sought rehear-
ing. FERC denied the rehearing request, reaffirming its
approval of the existing rates. See Kansas Pipeline Co., 87
F.E.R.C. ¶ 61,020 (1999) [hereinafter 1999 Rehearing Order].
In Missouri I, we reviewed the 1998 Order and 1999
Rehearing Order. Counsel for FERC defended the orders’
approval of the existing rates on five grounds, arguing that:
(1) approval of the existing rates ended the dispute over
whether the pipeline was properly subject to FERC’s inter-
state jurisdiction; (2) the existing rates had been negotiated
among the parties; (3) the existing rates had been approved
by KPC’s prior state regulator; (4) the existing rates pre-
served KPC’s financial integrity and prevented KPC’s bank-
ruptcy; and (5) the existing rates were lower than the rates
FERC would otherwise have approved on rehearing (the
4
‘‘Rehearing Rates’’). See Missouri I, 234 F.3d at 40. We
found that the second and third rationales (that the existing
rates had been negotiated by the parties and had been
approved by KPC’s prior regulator) could not sustain FERC’s
determination because FERC had not actually relied on those
grounds in its orders. Id. at 41 (citing SEC v. Chenery Corp.,
332 U.S. 194, 196 (1947)). We further held that, although
FERC had mentioned the first and fourth rationales (that
approval of the rates would end the jurisdictional dispute and
would preserve KPC’s financial integrity), it had done so only
in a ‘‘passing reference’’ that was ‘‘not sufficient to satisfy the
Commission’s obligation to carry out ‘reasoned’ and ‘princi-
pled’ decisionmaking.’’ Id.
That left only the fifth rationale, which we regarded as the
Commission’s ‘‘primary reason’’ for approving the existing
rates: the argument that those rates were lower than the
rates that FERC would otherwise have approved had it
granted a rehearing. Id. at 42. We rejected that rationale
as well, finding that the Commission had not even attempted
to defend its computation of the rates it would otherwise have
approved — a fact that made it impossible for us to accept
the use of those rates as a benchmark for comparing the
existing rates. Id. Ruling that ‘‘FERC ha[d] not adequately
explained how the rationales, alone or together, satisfy the
‘public interest’ standard of section 7,’’ we remanded to the
agency for further proceedings. Id. We noted, however,
that with proper support, some of the rationales found want-
ing in Missouri I might serve as justifications for § 7 rates in
an appropriate case. Id.
On remand, the Commission reaffirmed the rates that it
had initially approved in its 1998 Order. See Kansas Pipe-
line Co., 97 F.E.R.C. ¶ 61,168 (2001) [hereinafter 2001 Re-
mand Order]. In so doing, FERC abandoned the primary
justification it had offered in Missouri I and turned to an
array of other rationales. 2001 Remand Order, 97 F.E.R.C.
at 61,779, 61,784–85. Missouri PSC sought rehearing, which
FERC denied in 2002. See Kansas Pipeline Co., 98 F.E.R.C.
¶ 61,343, at 62,457 (2002) [hereinafter 2002 Rehearing Order].
The 2002 Rehearing Order clarified the Commission’s reason-
5
ing, listing three supporting rationales. According to the
Commission, approval of the existing rates: (1) preserved
KPC’s financial integrity, by ensuring compliance with a
condition of a major loan agreement; (2) was fair to KPC’s
shippers because those rates had been negotiated by the
shippers and approved under the prior state regulatory re-
gime; and (3) would resolve the jurisdictional issue, because
KPC had agreed to drop its challenge to FERC’s jurisdiction
if the existing rates were adopted. See 2002 Rehearing
Order, 98 F.E.R.C. at 62,457.
Missouri PSC filed a timely petition for review, and En-
bridge Pipelines, the successor to KPC, intervened in support
of FERC’s decision. In the meantime, FERC has completed
§ 4 proceedings for the pipeline, and the § 4 rates — which
are substantially lower than the rates that FERC approved
under § 7 — have gone into effect. Our decision in this case,
therefore, will have no prospective effect; it will determine
only whether KPC’s customers were overcharged and wheth-
er FERC should consider a refund for the rates assessed
during the interim period.
II
We review FERC’s orders under the arbitrary or capri-
cious standard of the Administrative Procedure Act, 5 U.S.C.
§ 706(2)(A). Missouri I, 234 F.3d at 40.1 To satisfy that
1 We reject at the outset Enbridge Pipeline’s contention that we
are without jurisdiction to consider Missouri PSC’s argument that
FERC erred in ‘‘depart[ing] from cost-based ratemaking policies,’’
because the petitioner failed ‘‘to urge the issue’’ adequately in its
request for rehearing before the Commission. Intervenor’s Br. at
8; see 15 U.S.C. § 717r(b) (‘‘No objection TTT shall be considered by
the court unless such objection shall have been urged before the
Commission in the application for rehearing unless there is reason-
able ground for failure so to do.’’). Examination of petitioner’s
application for rehearing makes clear that it did adequately raise
the issue. See, e.g., Joint Req. for Reh’g, at 1 (Dec. 10, 2001) (J.A.
at 1125) (protesting the Commission’s ‘‘extraordinary’’ departure
‘‘from its cost-based ratemaking policies’’); id. at 2 (J.A. at 1126)
6
standard, there must be ‘‘a rational connection between the
facts found and the choice made’’ by the Commission. Id.
(internal quotation marks omitted). FERC must ‘‘articulate
the critical facts upon which it relies,’’ and when it ‘‘finds it
necessary to make predictions or extrapolations from the
record, it must fully explain the assumptions it relied on to
resolve unknowns and the public policies behind those as-
sumptions.’’ Id. (quoting Columbia Gas Transmission Corp.
v. FERC, 628 F.2d 578, 593 (D.C. Cir. 1979)). Similarly,
when ‘‘the Commission balances competing interests in arriv-
ing at its decision, it must explain on the record the policies
which guide it.’’ Id. (quoting Columbia Gas, 628 F.2d at 593).
Finally, the Commission’s factual findings are ‘‘conclusive’’ if,
but only if, they are ‘‘supported by substantial evidence’’ in
the record. NGA § 19(b), 15 U.S.C. § 717r(b).
There is no dispute that the ‘‘public interest’’ standard of
NGA § 7 is less exacting than the ‘‘just and reasonable’’
requirement of § 4. See Atlantic Refining, 360 U.S. at 390–
91. But both the Supreme Court and this circuit have made
clear that the Commission has a duty to use its § 7 power to
protect consumers. See id. (‘‘[T]he inordinate delay TTT in
the processing of § 5 proceedings requires a most careful
scrutiny and responsible reaction to initial price proposals of
producers under § 7.’’); Consumer Fed’n of Am. v. Federal
Power Comm’n, 515 F.2d 347, 356 (D.C. Cir. 1975) (declaring
that ‘‘preservation of the statutory scheme depends on dili-
gent enforcement of the § 7 certification requirement as a
holding operation on initial rates’’). Indeed, the Commis-
sion’s ‘‘usual practice in Section 7 certificate proceedings’’ is
to ‘‘apply[ ], to the extent practicable, the same ratemaking
policies that it applies in Section 4 rate cases in determining
just and reasonable rates on a cost of service basis.’’ 2001
Remand Order, 97 F.E.R.C. at 61,785; see Maritimes &
Northeast Pipeline, L.L.C., 84 F.E.R.C. ¶ 61,130, at 61,683
(1998).
(arguing that ‘‘[n]one of [FERC’s arguments] TTT justify the Com-
mission’s admitted departure’’ from these policies).
7
FERC correctly noted that ‘‘ ‘non-cost’ public interest fac-
tors may justify the Commission’s departure from its usual
cost-based approach to setting rates.’’ 2001 Remand Order,
97 F.E.R.C. at 61,786–87 (citing FERC v. Pennzoil Prods.
Co., 439 U.S. 508, 517–18 (1979)). ‘‘The mere invocation of a
non-cost factor, however, does not alleviate a reviewing court
of its duty to assure itself that the Commission has given
reasoned consideration to each of the pertinent factors.’’
Farmers Union Cent. Exch., Inc. v. FERC, 734 F.2d 1486,
1502 (D.C. Cir. 1984) (citing Pennzoil, 439 U.S. at 518). ‘‘On
the contrary,’’ deviations from the Commission’s customary
cost-based approach, like departures from any agency’s usual
policy, must be ‘‘found not to be unreasonable and to be
consistent with the Commission’s TTT responsibility.’’ Id. In
short, FERC ‘‘must specify the nature of the relevant non-
cost factor and offer a reasoned explanation of how the factor
justifies the resulting rates.’’ Id.
Missouri PSC contends, and FERC does not dispute, that
in this case the Commission did depart from its customary
practice of basing § 7 rates on cost-based principles. See
Petitioner’s Br. at 25; 2001 Remand Order, 97 F.E.R.C. at
61,784–85. The Commission argues that it did so, however,
because KPC’s pipeline presented ‘‘unique circumstances’’:
unlike the pipelines in typical § 7 cases, ‘‘the Kansas Pipeline
[was] neither a [newly constructed] pipeline, nor an existing
company operating under a FERC-regulated tariff.’’ 2002
Rehearing Order, 98 F.E.R.C. at 62,456. According to
FERC, the three rationales set forth in its 2002 Rehearing
Order respond to these unique circumstances and justify its
decision to grandfather KPC’s existing rates rather than
adhere to its usual cost-based ratemaking principles. Id. at
62,457.
We consider the first two of FERC’s rationales below.
Because we find them insufficient to sustain FERC’s orders,
we have no reason to consider the third — that approval of
the existing rates would resolve the dispute over FERC’s
jurisdiction. The Commission made clear that it ‘‘would not
8
have approved the [existing] rates simply to resolve the
jurisdictional issue,’’ 2002 Rehearing Order, 98 F.E.R.C. at
62,460, and as a consequence we may not affirm the agency’s
orders on that basis, see SEC v. Chenery Corp., 318 U.S. 80,
87–88, 93–95 (1943).
III
In its post-Missouri I orders, FERC’s primary rationale
for concluding that the existing rates were in the public
interest was that they preserved KPC’s financial integrity by
ensuring compliance with a condition of a major loan agree-
ment. The loan in question was a $91 million loan obtained
by KPC’s affiliate, Syenergy Pipeline Company (the ‘‘Syener-
gy loan’’). See 2001 Remand Order, 97 F.E.R.C. at 61,788.
The loan agreement contained a covenant requiring KPC to
maintain a minimum Debt Service Coverage Ratio (DSCR) of
1.00 to 1.15.2 See id. at 61,785. According to FERC, the
approved rates were necessary to ensure KPC sufficient
revenues to maintain the DSCR ‘‘with a reasonable margin of
safety.’’ Id. at 61,789.
For the two reasons discussed below, we conclude that this
was an arbitrary and capricious rationale for approving
KPC’s existing rates under NGA § 7.
A
The Commission first addressed the Syenergy loan in 1998,
when it was considering KPC’s initial request for interim
rates under § 7. At that time, FERC flatly rejected KPC’s
argument that it should approve rates sufficient to cover the
debt service on the loan. FERC’s conclusion was set forth in
harshly worded language, which we quote at length because
of its importance to the present case:
2 ‘‘The DSCR is calculated by dividing the loan applicant’s net
operating income by its total debt service obligations, including
principal and interest, on all loans on the property serving as
security.’’ 2001 Remand Order, 97 F.E.R.C. at 61,785 n.37.
9
First, we can find no nexus between the value of the
facilities and the size of the Syenergy primary loanTTTT
[W]e can find nothing in the record to account for how
the $91 million was actually used. Further, TTT the main
purpose of the loan was to allow Syenergy to purchase
99.9 percent of the pipeline interests of Kansas Pipeline
Partnership, KansOk, and Riverside. Since Syenergy
[and the other three] ultimately are owned by the same
entity, it would appear that this transaction is not at
arms-length. In essence, the company borrowed $91
million to purchase itself, at a price which it set, with no
apparent nexus between the value of the facilities and
the amount of the loan. The argument put forth now is
that the rate base should be raised artificially, and rates
set accordingly, so that the applicant can make payments
on the primary loan. Absent a nexus between the loan
amount and the value of the facilities, and given the lack
of arms-length negotiations due to the affiliate nature of
those involved, we are not persuaded by the argument
that, because of the [Kansas Corporation Commission]
accounting order, we are required by law to ensure that
the rates are sufficient to sustain the loan provisions.
1998 Order, 83 F.E.R.C. at 61,507 (emphasis added; footnote
omitted). The Commission’s refusal to rest its 1998 approval
of KPC’s rates on the rationale that they were necessary to
satisfy the Syenergy loan — which had ‘‘no nexus’’ to the
value of the facilities used to provide service to the ratepay-
ers — was completely consistent with FERC’s usual cost-
based approach to ratesetting.3
3 Cf. K N Energy, Inc. v. FERC, 968 F.2d 1295, 1300–01 (D.C.
Cir. 1992) (noting that ‘‘it has been traditionally required that all
approved rates reflect to some degree the costs actually caused by
the customer who must pay them’’); Alabama Elec. Coop., Inc. v.
FERC, 684 F.2d 20, 27 (D.C. Cir. 1982) (noting that ‘‘[p]roperly
designed rates should produce revenues from each class of custom-
ers which match, as closely as practicable, the costs to serve each
class or individual customer’’); Tennessee Gas Pipeline Co. v.
FERC, 606 F.2d 1094, 1109 (D.C. Cir. 1979) (stating that ‘‘current
10
But after Missouri I rejected the rationale upon which
FERC did rest its 1998 Order, FERC reversed course and
adopted the Syenergy loan’s DSCR provision as the primary
basis for its 2001 Remand Order. No new facts prompted the
Commission’s change of heart. To the contrary, in its re-
quest for rehearing, Missouri PSC submitted a spreadsheet
prepared by KPC that demonstrated not just the absence of a
nexus between the loan proceeds and the jurisdictional facili-
ties, but that more than $7 million of the proceeds was used
to pay stockholder and partnership distributions, and that
over $3 million was wholly unaccounted for. See Joint Req.
for Reh’g, attach. A (J.A. at 1158–59). Nor did the Commis-
sion suggest that its reversal was due to a reevaluation of any
previously considered facts. Although FERC acknowledged
its earlier concerns,4 it concluded that ‘‘[r]egardless of the
issues surrounding the underlying loan obligation, the loan
was a legally binding obligation containing a condition which,
if not met, would cause certain default.’’ Id. at 61,788–89.
The first part of this explanation, that ‘‘the loan was a
legally binding obligation,’’ can hardly be sufficient. The
point of FERC’s cost-based ratemaking policy is that pipeline
expenditures that do not benefit a pipeline’s customers —
whether or not the expenditures are legally binding — nor-
mally should not be the basis of the rates those customers
pay. Otherwise, a pipeline could embark upon a perfectly
legal and economically prudent diversification program into
non-pipeline businesses, and bill the pipeline’s customers for
the cost of those investments. Or, as here, a pipeline could
borrow money in order to make cash distributions to its
rate payers should bear only legitimate costs of providing service to
them’’).
4 See 2001 Remand Order, 97 F.E.R.C. at 61,788 (‘‘It is true that
the April 1998 Order in this proceeding found that Kansas Pipe-
line’s loan commitments did not appear to be the product of
transactions conducted at arms’ length, since they involved affili-
ates, and the loan was greater than the net depreciated value of the
pipeline facilities of the three pipelines found to constitute Kansas
Pipeline’s jurisdictional interstate system.’’).
11
partners, and recover the cost of those payments from ship-
pers and consumers.
Nor was it sufficient that the DSCR condition, ‘‘if not met,
would cause certain default,’’ because mere default — without
subsequent action by the lender — could well have no conse-
quence. Acknowledging this point, FERC further elaborated
by stating: ‘‘In that situation the lender could foreclose on
Kansas Pipeline’s pipeline facilities, since the Kansas commis-
sion had approved the lender’s placement of a lien on those
assets. Kansas Pipeline, therefore, could be forced into
bankrupty and potentially out of business.’’ Id. at 61,789
(emphasis added). But the number of qualifiers in this
theoretical chain of events renders it a weak rationale for the
imposition of the existing rates. When FERC ‘‘finds it
necessary to make predictions or extrapolations from the
record, it must fully explain the assumptions it relied on to
resolve unknowns and the public policies behind those as-
sumptions.’’ Missouri I, 234 F.3d at 40 (quoting Columbia
Gas, 628 F.2d at 593). It has not done so here.
The first link in the chain, FERC’s concern that default
‘‘could’’ lead to foreclosure, was unaccompanied by any sug-
gestion that foreclosure was likely. To the contrary, the
‘‘Commission recognize[d]’’ — just as it did in rejecting
reliance on the Syenergy loan in 1998 — ‘‘that, since long
term interest rates were in the 6 percent range when the
April 1998 Order approved Kansas Pipeline’s motion rates,
the 9.5 percent loan secured by Kansas Pipeline’s facilities
would not necessarily be recalled by the holder simply be-
cause Kansas Pipeline’s DSCR dipped below the loan[’s] TTT
DSCR default provision.’’ 2001 Remand Order, 97 F.E.R.C.
at 61,789; see 1998 Order, 83 F.E.R.C. at 61,507 n.18. Al-
though this interest rate differential was a strong reason for
concluding that violation of the DSCR alone likely would not
lead to foreclosure, FERC dismissed the point with the
statement that ‘‘there was no assurance that financial market
conditions would not change.’’ 2001 Remand Order, 97
F.E.R.C. at 61,789. But the truism that market conditions
may change in the future does not give the Commission a
license to ignore the present — at least not without some
12
assessment of the likelihood that such a change will occur.
Moreover, FERC’s 2001 decision to discount the effect of the
interest rate differential on the lender’s likely reaction was an
unexplained reversal of its reliance on precisely that differen-
tial in refusing to rest the 1998 Order on the Syenergy loan.
See 1998 Order, 83 F.E.R.C. at 61,507 n.18. This unexplained
reversal was itself arbitrary and capricious. See Baton
Rouge Marine Contractors, Inc. v. Federal Mar. Comm’n,
655 F.2d 1210, 1214–15 (D.C. Cir. 1981).
The second link in FERC’s chain, that foreclosure could
lead to forced bankruptcy, was equally speculative. The most
the Commission could say was that ‘‘the potential TTT clearly
existed.’’ 2002 Rehearing Order, 98 F.E.R.C. at 62,456. And
the third link, that bankruptcy could put the pipeline out of
business, was similarly unaccompanied by any measure of its
likelihood. Indeed, FERC acknowledged that ‘‘a reorganiza-
tion in bankruptcy could have been beneficial for Kansas
Pipeline and its customers,’’ id., but never explained how it
balanced that potentially positive outcome against the nega-
tive possibilities upon which it relied.
The analytical weakness of FERC’s orders is made mani-
fest by contrasting them to the principal precedent upon
which the Commission relied. In Jersey Central Power &
Light Co. v. FERC, 810 F.2d 1168 (D.C. Cir. 1987) (en banc),
this court vacated a FERC order that required an electric
utility (Jersey Central) to file reduced rates based on the
Commission’s decision that the unamortized portion of the
utility’s unproductive investment in a nuclear generating sta-
tion should be excluded from the rate base.5 Unlike KPC’s
Syenergy loan, however, Jersey Central’s investment in the
generating station was concededly ‘‘prudent when made,’’ as
an effort to meet the projected needs of the utility’s custom-
ers. Id. at 1171; see also id. at 1181. Also in contrast to this
case, in which the parties cite no record evidence of the
5 Jersey Central was decided under the ‘‘just and reasonable’’
standard of § 205 of the Federal Power Act, 16 U.S.C. § 824d, a
provision analogous to NGA § 4. See Jersey Central, 810 F.2d at
1175.
13
likelihood of KPC’s financial ruin, Jersey Central had submit-
ted substantial evidence of its financial fragility and of the
fact that the requested rates were the minimum ‘‘necessary to
preserve [the] company’s TTT financial integrity.’’ Id. at
1172.6
We agree with the Commission that it was obligated ‘‘to
consider the impact the initial rates would have on Kansas
Pipeline’s financial integrity.’’ 2002 Rehearing Order, 98
F.E.R.C. at 62,458. See generally Federal Power Comm’n v.
Hope Natural Gas Co., 320 U.S. 591, 603 (1944); Jersey
Central, 810 F.2d at 1177–78, 1182. But FERC’s orders cite
no evidence regarding the effect a default on the DSCR
provision would have on the pipeline’s financial integrity.
And they are equally devoid of any indication that the Com-
mission balanced that factor against the costs of requiring
customers to pay rates to cover a loan, the size of which bears
no nexus to the value of the facilities that benefit those
customers. Accordingly, we find FERC’s determination to be
both arbitrary and unsupported by substantial evidence. See
Missouri I, 234 F.2d at 42 (‘‘In reviewing a rate order courts
must determine whether or not the end result of that order
constitutes a reasonable balancing, based on factual findings,
of the investor interest in maintaining financial integrity and
access to capital markets and the consumer interest in being
charged non-exploitative rates.’’ (quoting Jersey Central, 810
F.2d at 1177–78)).
B
FERC’s decision to approve rates sufficient to meet the
requirements of the Syenergy loan’s DSCR provision was
arbitrary for another reason: by the time the Commission
6 See also id. at 1171 (discussing testimony regarding the utility’s
low credit rating); id. at 1178 (discussing testimony on the possible
drying-up of the utility’s credit sources, and on its long-term
inability to pay common stock dividends); id. at 1188 (Starr, J.,
concurring) (noting that the utility’s ‘‘allegations of financial plight
were highly detailed and specific, indicating that the utility was
skating on the edge of bankruptcy’’).
14
offered that rationale, the Syenergy loan had been fully
repaid. Indeed, the loan was repaid in November 1999 when
Midcoast Energy Resources, Inc. acquired KPC — a full two
years before FERC relied on the DSCR provision as a
rationale for its November 2001 Remand Order. See 2002
Rehearing Order, 98 F.E.R.C. at 62,458; see also Enbridge
Pipelines, 100 F.E.R.C. ¶ 61,260, at 61,930, 61,961 (2002).7
Nonetheless, FERC argued that ‘‘whenever the Commission
sets initial rates there is always a possibility that the nature
of a loan arrangement or other financial circumstances might
change before initial rates are superceded by Section 4 rates.’’
2002 Rehearing Order, 98 F.E.R.C. at 62,458. Accordingly,
the Commission concluded, it was appropriate for it to rely on
remand upon ‘‘the record that the Commission had at the
time it issued its underlying TTT 1998 Order,’’ at which time
‘‘Kansas Pipeline was still subject to the Syenergy loan.’’ Id.
FERC’s argument might be persuasive if Missouri PSC’s
charge were that unanticipated financial changes had under-
cut FERC’s previous rationale — although even then FERC
would have had to articulate a nonarbitrary reason for ignor-
ing those new facts.8 Missouri’s complaint, however, was not
that new facts had undercut an old rationale, but that FERC
had adopted a new rationale premised on old facts that were
no longer true. The need to satisfy the Synergy loan’s DSCR
provision was not a rationale for the 1998 and 1999 orders
that approved KPC’s existing rates. Insofar as those orders
discussed concern over KPC’s financial integrity at all, they
did so only as a ‘‘passing reference,’’ Missouri I, 234 F.3d at
41, a reference that expressly did not rely on the DSCR
provision, see 1998 Order, 83 F.E.R.C. at 61,507 (stating that
the Commission was not relying on the DSCR provision
7 Midcoast, in turn, was purchased by the intervenor, Enbridge,
on May 11, 2001. See Enbridge Pipelines, 100 F.E.R.C. at 61,930.
8 See 18 C.F.R. § 385.716 (allowing FERC to reopen the record if
‘‘warranted by any changes in conditions of fact or of law or by the
public interest’’); see also Eastern Carolinas Broad. Co. v. FCC,
762 F.2d 95, 103 (D.C. Cir. 1985) (stating that agency decisions not
to reopen the record are normally reviewed for abuse of discretion).
15
because FERC’s approval of the existing rates rendered that
issue ‘‘effectively moot’’). The first time FERC relied on the
DSCR provision was in the post-Missouri I order that it
issued in November 2001. Thus, at the time FERC first
announced that the existing rates were necessary to prevent
both a default on the DSCR provision and the financial
disaster that might follow, the Commission knew full well that
there was no possibility that either event could occur. Reli-
ance on facts that an agency knows are false at the time it
relies on them is the essence of arbitrary and capricious
decisionmaking. Requiring Missouri consumers to pay rates
sufficient to prevent foreclosure on a loan that no longer
exists is at least equally so.9
IV
FERC’s orders offered a second, two-part rationale for
approving KPC’s rates: they ‘‘were in the public interest and
not exploitative of KPC’s shippers because those rates had
been [1] negotiated by those shippers, and [2] approved by
the prior regulatory regime.’’ Respondent’s Br. at 34. We
reject these grounds as arbitrary and capricious as well.
The fact that the existing rates had been negotiated by the
pipeline’s shippers is insufficient to support FERC’s orders
for two reasons. First, although FERC is correct that we
have ‘‘required the Commission to give weight to the con-
tracts and settlements of the parties before it,’’ Missouri I,
234 F.3d at 120 (quoting Tejas Power Corp. v. FERC, 908
F.2d 998, 1003 (D.C. Cir. 1990)), we have also made clear that
‘‘[e]ven when customer support is unanimous, TTT FERC
retains the responsibility of making an ‘independent judg-
ment,’ ’’ Laclede Gas Co. v. FERC, 997 F.2d 936, 946 (D.C.
Cir. 1993) (quoting Tejas Power, 908 F.2d at 1003). As we
9 At oral argument, counsel for the Commission suggested that,
even though the Syenergy loan had been paid off before the 2001
Remand Order, other costs might have increased in the interim.
But the Commission did not point to any evidence of such increased
costs, and counsel’s speculation cannot salvage FERC’s decision.
16
said in Tejas Power, this means that before relying on
existing contracts between a pipeline and its customers to
show that rates are reasonable, FERC must ‘‘first deter-
min[e], upon the basis of substantial evidence, that the pipe-
line lacks significant market power.’’ 908 F.2d at 1004. And
it also means that before relying on contracts between a
pipeline and its wholesale customers, FERC must ‘‘address
the question of whether’’ the interests of those customers
‘‘are sufficiently likely to be congruent with those of ultimate
consumers,’’ id. at 1004, ‘‘who, presumably, will bear the cost’’
of the agreed-upon rates in their monthly energy bills, id. at
1003. See Atlantic Refining, 360 U.S. at 390. The orders
under review in this case do not consider these relevant
factors and are therefore arbitrary and capricious. See
Northern Mun. Distribs. Group v. FERC, 165 F.3d 935, 941
(D.C. Cir. 1999).
Second, there is a serious problem with the factual premise
that the existing rates were those to which the shippers had
agreed. The contract of one of KPC’s principal shippers,
Missouri Gas Energy (MGE), makes clear that although that
shipper agreed to live with the contractual rates, it was
willing to do so only until FERC exercised jurisdiction in a
§ 7 order. According to the contingency provision of MGE’s
Riverside I contract, the contract rates were to be ‘‘ ‘adjusted
upwards or downwards, as may be the case, by the difference,
if any, between the rate [initially agreed to by the parties]
and the rate approved by such [Commission] order.’ ’’ Initial
Comments of MGE, at 10 (Nov. 26, 1997) (J.A. at 787)
(quoting contract). If FERC wishes to rely upon the rates
for which the parties bargained, it must consider their entire
bargain.10
10Missouri PSC does not argue, as FERC charges, that ‘‘a
contingency provision in a customer contract TTT could limit
FERC’s discretion in setting initial § 7 rates.’’ Respondent’s Br. at
18. Rather, it argues that if FERC wants to rely on an existing
contract to establish the reasonableness of a rate, it may not ignore
a contingency provision of the same contract. We agree.
17
Finally, the Commission’s decision is not rescued by the
fact that the rates FERC adopted had been approved by the
Kansas Corporation Commission (KCC) under the regulatory
regime that governed the pipeline prior to FERC’s assertion
of jurisdiction. Again, we do not disagree that ‘‘this Court
has directed that FERC consider the role of state regulators
in protecting the ultimate consumer.’’ Respondent’s Br. at 35
(citing Tejas Power, 908 F.2d at 1004). But the Commission
must nonetheless determine ‘‘in its independent judgment,’’
whether the terms approved by the KCC meet the public
convenience and necessity. Tejas Power, 908 F.2d at 1003
(emphasis added).
When FERC relies upon a state agency’s prior approval to
support the conclusion that rates are in the public interest,
the Commission must at least say something about the prior
regulator’s rationale for approving those rates. In this case,
FERC said nothing. And to the extent that we know any-
thing about the KCC’s views, what we know is not helpful to
the Commission. First, although we know that the KCC
approved the Syenergy loan, FERC’s 1998 Order expressly
rejected Kansas Pipeline’s argument that such approval justi-
fied FERC approval as well:
Kansas Pipeline argues that the Commission must ap-
prove rates which are sufficient to cover the debt service
[on the Syenergy loan], since these cost and debt instru-
ments were approved by the KCC. The Commission is
not persuaded by the applicant’s argumentsTTTT While
the KCC accounting order states that portions of the
funds would be used to upgrade pipeline assets, TTT we
can find nothing in the record to account for how the $91
million was actually used.
1998 Order, 83 F.E.R.C. at 61,506–07. Second, we also know
that in the request for rehearing below, the KCC joined
Missouri PSC in arguing against approval of the existing
rates, insisting that FERC ‘‘should not have relied on [the]
DSCR loan provision in approving initial rates in this case in
light of the facts that there was no nexus between the amount
of the loan and the cost of the Kansas Pipeline facilities, and
18
that Kansas Pipeline had not adequately accounted for the
loan proceeds.’’ 2002 Rehearing Order, 98 F.E.R.C. at
62,458.
In sum, FERC may not brandish a state’s prior approval of
a set of existing rates as if it were independently sufficient to
satisfy the Commission’s own regulatory obligations. Section
7 imposes a duty on FERC to determine for itself whether
the rates it approves are in the public interest. The Commis-
sion has not complied with that responsibility.
V
For the foregoing reasons, we conclude that the challenged
FERC orders are arbitrary and capricious. As this is the
second time that FERC has failed to justify its approval of
KPC’s existing rates, we vacate those orders.
Missouri Public Service has requested that we also ‘‘direct
the Commission to refund, with interest, the difference be-
tween properly calculated initial rates and the [approved]
rates,’’ from December 2, 1997, through the date the NGA
§ 4 rates went into effect. Petitioner’s Br. at 58. At oral
argument, FERC counsel did not dispute that the Commis-
sion would have authority to require such a refund if we
vacated its orders. See also United Gas Improvement Co. v.
Callery Props., 382 U.S. 223, 229–30 (1965); Public Serv.
Comm’n v. Federal Power Comm’n, 329 F.2d 242, 250 (D.C.
Cir. 1964). Although we do not see any reason why a refund
would not be in order at this point, the Commission has not
yet addressed the question. And we could not, in any event,
calculate the appropriate amount of a refund on our own.
Accordingly we vacate FERC’s 2001 Remand Order and 2002
Rehearing Order, and remand with directions that the Com-
mission address the question of an appropriate refund.
So ordered.