United States Court of Appeals
FOR THE DISTRICT OF COLUMBIA CIRCUIT
Argued May 9, 2005 Decided July 12, 2005
No. 02-1374
SOUTHERN CALIFORNIA EDISON COMPANY AND
PACIFIC GAS AND ELECTRIC COMPANY,
PETITIONERS
v.
FEDERAL ENERGY REGULATORY COMMISSION,
RESPONDENT
SAN DIEGO GAS & ELECTRIC COMPANY, ET AL.,
INTERVENORS
Consolidated with
02-1376, 02-1381, 02-1385, 02-1388
On Petitions for Review of Orders of the
Federal Energy Regulatory Commission
Nicholas W. Fels argued the cause for Utility Petitioners.
With him on the briefs were Mark D. Patrizio, Stuart K.
Gardiner, Carolyn F. Corwin, Stuart J. Evans, E. Gregory
Barnes, Jennifer L. Key, and Michael D. Mackness.
2
Harvey L. Reiter argued the cause for petitioners
Sacramento Municipal Utility District, et al. With him on the
briefs were Glen L. Ortman, Wallace L. Duncan, James D.
Pembroke, Michael Postar, and Sean M. Neal.
Anthony J. Ivancovich, J. Phillip Jordan, and Michael E.
Ward were on the brief for intervenor California Independent
System Operator Corporation in support of petitioners.
Dennis Lane, Solicitor, Federal Energy Regulatory
Commission, argued the cause for respondent. With him on the
brief was Cynthia A. Marlette, General Counsel.
Before: GINSBURG, Chief Judge, and SENTELLE and
ROGERS, Circuit Judges.
Opinion for the Court filed by Circuit Judge SENTELLE.
SENTELLE, Circuit Judge: The Federal Energy Regulatory
Commission (“FERC” or “the Commission”) in the order before
us disallowed tariff provisions proposed by Southern California
Edison, Pacific Gas & Electric, and San Diego Gas & Electric
(“Utility Petitioners,” transmission operators, or “TOs”) in
which Utility Petitioners had proposed a rate designed to recover
from two classes of customers cost differentials from additional
expenses arising out of the formation and maintenance of an
independent system operator (“ISO”). Utility Petitioners
proposed a tariff term passing costs through both to customers
under existing contracts and to new customers. FERC
disallowed the pass-through as to the new customers. Both the
Utility Petitioners and municipal customers (customers under
pre-existing contracts) petition for review, challenging the
FERC decision as arbitrary and capricious in violation of section
706 of the Administrative Procedure Act (“APA”). Because the
order by FERC contravenes the explicit language of the FERC-
3
approved ISO tariff schedule to which the tariffs must conform,
we find the order to have been arbitrary and capricious and grant
the petitions for review.
I. Background
A. Creation of ISO Tariff Schedule
In March 1998, as part of a FERC-instigated restructuring
of the California energy system, Utility Petitioners transferred
control over their electricity transmission to the newly formed
California ISO. (For background on the formation of ISOs in
general, and this ISO in particular, see California Independent
System Operator Corp. v. FERC, 372 F.3d 395, 396-97 (D.C.
Cir. 2004)). When they merged into the ISO, Utility Petitioners
retained obligations to provide transmission to existing
wholesale customers under pre-existing contracts. See FERC
Electric Tariff, original vol. 1 of Cal. Ind. Sys. Operator Corp.
§ 2.4.3.1 (“ISO Tariff”) (providing that existing contracts should
be honored such that, “to the extent possible, [doing so] imposes
no additional financial burden on either the Participating TO or
the contract rights holder . . . .”). But at the same time,
according to Utility Petitioners, they faced higher costs from the
ISO–in the form of transmission losses and ancillary service
requirements1 –than those they could recover under existing
contracts with their wholesale customers.
1
According to the Utility Petitioners, “transmission losses” are
the small portion of energy that is lost “when electricity is scheduled
over transmission lines . . . due principally to electrical resistance of
the conductors transmitting the energy from generators to consumers”
and “ancillary servic es” means “the maintenance of generation at
various stages of readiness . . . in order to assure the continued
reliability of the grid.”
4
Just before the ISO went into operation, FERC approved the
final version of the ISO Tariff agreed to by the various parties
to the restructuring that established a roadmap governing the
operation of the ISO, including principles governing the
individual TO Tariffs that Utility Petitioners could charge to
their customers. During the process of negotiating this
agreement, Utility Petitioners asked that a provision be included
to allow them to recover the excess transmission and ancillary
service provision costs. This was done in section 7.1 of a revised
version of the ISO Tariff, issued in August 1997, which called
for including a “Transmission Revenue Credit” in the Access
Charge to be collected by the ISO on behalf of the TOs; the
definition of “Transmission Revenue Credit” was revised to
include “the shortfall or surplus resulting from any cost
differences between Transmission Losses and Ancillary Service
requirements associated with Existing Rights or Non-Converted
Rights and the ISO’s rules and protocols.” ISO Tariff, Master
Definitions Supplement, original sheet no. 350. Further, after
and pursuant to an October 30, 1997 FERC Order providing
interim and conditional authorization to the ISO to start
operations, Pacific Gas & Electric Co. et al, Order
Conditionally Authorizing Limited Operation of an Independent
System Operator and Power Exchange, 81 FERC 61,122
(“October 1997 Order”), the ISO submitted a revision to the
language of section 2.4.4.4.4.5, which provided that the ISO
“will provide the parties to the Existing Contracts with details of
its Transmission Losses and Ancillary Services calculations to
. . . enable the parties to the Existing Contracts to settle the
differences bilaterally or through the relevant TO Tariff.” ISO
Tariff § 2.4.4.4.4.5 (emphasis added).
FERC accepted the ISO’s proposed Access Charge,
including the revised definition of “Transmission Revenue
Credit” in its order of October 30, 1997. It accepted the
proposed revision to the language of section 2.4.4.4.4.5 “for
5
filing . . . to become effective on the date that ISO operations
commence” in December 1997. Order Conditionally Accepting
for Filing Certain Pro Forma Agreements, 81 FERC 61,322,
62,477 (Dec. 17, 1997). Utility Petitioners argue that, under this
final version of the ISO Tariff, they would be permitted to
recover the cost differentials either (a) by bilaterally negotiating
with existing contract holders, or (b) by adding them to the
Access Charge (through the Transmission Revenue Credit)
charged by the ISO to the TOs’ new customers,2 paying ISO
tariff rates.
B. Administrative Proceedings
After the above-described negotiations were complete,
FERC set the individual TO Tariffs for administrative hearings,
as required by FPA § 205(e), 16 U.S.C. § 824d(e) (“Whenever
any new schedule is filed the Commission shall have authority,
. . . to enter upon a hearing concerning the lawfulness of such
rate, charge, classification, or service.”). In a consolidated
hearing addressing the proposed TO Tariffs of all three Utility
Petitioners, the administrative law judge (“ALJ”) decided that,
despite the above-cited language of the ISO Tariff, the cost
differentials could not be passed on to the TO’s tariff customers
via the Transmission Revenue Credit in the Access Charge,
holding that such a pass-through would amount to impermissible
cross-subsidization. Pacific Gas & Electric Co., Initial
Decision, 88 FERC 63,007, 65,051 (Sept. 1, 1999). Specifically,
the ALJ noted, “[a]ll other [TO] customers [aside from the
existing contract holders] would be responsible for costs
incurred on their own behalf as well as those incurred on behalf
2
The term “new customers” includes all customers taking
service under contracts entered after the assumption of service by the
ISO, without regard to whether a particular customer may have
previously had service under some preexisting contract.
6
of the Existing Contract customers.” Id. To make up the cost
differentials, the ALJ concluded, Utility Petitioners must either
(a) reform their contracts with existing contract holders, to the
extent permitted by those contracts and upon completion of a
FPA § 205 or FPA § 206 filing, or (b) “shoulder th[e] cost
burden” themselves, given that “they accepted the risk of
potential cost increases at the time they negotiated the Existing
Contracts.” Id. at 65,052.
Both Utility Petitioners and Municipal Petitioners filed
exceptions to the ALJ’s decision to the Commission. FERC
affirmed, holding that the definition of Transmission Credit
Revenue in the ISO Tariff did not control, and that the language
concerning reforming existing contracts in section 2.4.3.1 was
“essentially precatory.” Pacific Gas & Electric Co. et al,
Opinion No. 458, Opinion and Order Affirming Initial Decision,
100 FERC 61,156, 61,573-74 (August 5, 2002) (“Order 458”).
FERC further held that the ALJ had correctly read the ISO
Tariff to require Utility Petitioners to recover the cost
differential by reforming existing contracts (or else absorb the
costs themselves), because “the costs are associated with service
provided under the existing contracts, not the TO Tariffs . . . .”
Id. at 61,574.
Utility Petitioners and Municipal Petitioners sought
rehearing. FERC affirmed its prior conclusion, along with its
justifications. See Pacific Gas & Electric Co. et al, Opinion
458-A, Order Denying Rehearing, Granting Clarification and
Approving Partial Settlement, 101 FERC 61,151, 61,620
(“Order 458-A”). At this point, FERC added new justifications
for its affirmation of the ALJ’s decision: First, FERC noted that
although the ISO Tariff defined Transmission Revenue Credit
to include the cost differential (and thus seemingly provided for
the ISO to collect the cost differential from the new customers
as part of the Access Charge), the definition “merely provided
7
that the ISO will assess these costs to the [TOs], but says
nothing about what the [TOs] can do to recover these costs.” Id.
at 61,621. Second, despite the fact that the October 1997 Order
revised section 2.4.4.4.4.5 as set forth above, FERC averred it
had not “sp[oken] to the issue in this case in the October 1997
Order.” Id. at 61,623. Instead, it said that all it had done was
provide that “‘ . . . the ISO will establish a mechanism
acceptable to the [TO] to roll any shortfall or surplus into the
ISO rates applicable to that Transmission Owner.’” Id. (quoting
October 1997 Order at 61,464 n.145). FERC went on: “This
language does not, and was not intended to, explain the next step
in the process–how the TOs would recover the costs from their
customers.”
C. Current Petitions
Both Utility Petitioners and Municipal Petitioners petition
this court for review of Orders 458 and 458-A. Utility
Petitioners argue that FERC’s ruling that they may not recover
the cost differentials through their TO Tariffs is arbitrary and
capricious in violation of the Administrative Procedure Act
(“APA”), insofar as it ignores or misconstrues the plain
language of sections 2.4.4.4.4.5 and 7.1 of the ISO Tariff, and
relies instead on the ALJ’s “irrelevant” assertion that to allow
otherwise would shift costs from the existing contract holders to
the TO Tariff customers. Municipal Petitioners argue that it was
arbitrary and capricious for FERC to uphold the ALJ’s decision,
because (a) it ignored the ISO Tariff provisions that allowed for
recovery of the cost differentials through the TO Tariffs, and (b)
FERC “neither explains the basis for its subsidization finding
nor addresses Municipal Petitioners’ arguments that cost
causation principles require the opposite conclusion,” i.e., that
the existing contract holders were not responsible for the cost
differentials. Mun. Pet. Br. at 16.
8
After Petitioners filed their petitions in December 2002,
FERC asked for a voluntary remand of the record so that it could
consider the issues further. The Commission issued an order on
remand in May 2004, noting that it had mistakenly stated that
the ISO Tariff language established the rate the ISO collects
from (rather than for) the TOs. Order on Remand, 107 FERC
61,115 (May 6, 2004) (referring to language in Opinion No.
458-A at 61,621, mentioned above, in which FERC states that
the definition of Transmission Revenue Credit “merely provided
that the ISO will assess these costs to the [TOs], but says
nothing about what the [TOs] can do to recover these costs.”)
However, FERC maintains that that error did not affect its basic
conclusions.
We have jurisdiction under 16 U.S.C. § 825l(b). See, e.g.,
In re American Rivers & Idaho Rivers United, 372 F.3d 413,
419 (D.C. Cir. 2004). Because we conclude that FERC cannot
disregard the definition of Transmission Revenue Credit that it
approved and included in the ISO Tariff when considering later
TO Tariff filings by TOs seeking to conform to that tariff, we
grant the petitions for review.
II. Discussion
In the tariff context, this Court generally “gives substantial
deference to [FERC's] interpretation of filed tariffs, even where
the issue simply involves the proper construction of language.”
Koch Gateway Pipeline Co. v. FERC, 136 F.3d 810, 814 (D.C.
Cir. 1998) (internal quotation marks omitted). But, “[i]f the
tariff's language is unambiguous, this court need not defer to
FERC's interpretation.” Idaho Power v. FERC, 312 F.3d 454,
461 (D.C. Cir. 2002).
The language of the ISO Tariff at issue in this case is clear.
Section 2.4.4.4.4.5 of the ISO Tariff is permissive, allowing for
9
the recovery of cost differentials through the TO Tariffs, as well
as through bilateral negotiations to reform existing contracts.
The provision for the collection of a Transmission Revenue
Credit as part of the Access Charge in section 7.1, combined
with the definition of Transmission Revenue Credit, creates an
explicit accounting mechanism for the ISO to recover the cost
differentials through the TO Tariff on the TOs’ behalf. Thus,
Utility Petitioners are correct that the ISO Tariff allows them to
recover the cost differentials associated with the formation of
the ISO through their individual TO Tariffs.
FERC’s primary argument in support of its decision to
uphold the ALJ’s decision disregarding the plain meaning of
these provisions of the ISO Tariff is that the ISO Tariff is not
controlling. But FERC can only support this argument with its
own statements in the administrative proceedings below: (1)
That the main purpose of those proceedings was to determine
whether the TO tariff on the table was just and reasonable, as
called for by FPA § 205(e); and (2) that it had made clear that
the Access Charges (which include the Transmission Revenue
Credit) were to be evaluated in individual tariff proceedings.
However, to hold an individual TO Tariff that conforms to the
ISO Tariff unjust and unreasonable would be to render section
7.1 and the definition of Transmission Revenue Credit nullities.
This we can not do. See, e.g., Secretary of Labor v. Twentymile
Coal Company, 2005 U.S. App. LEXIS 10797 at *11, Case Nos.
04-1292 & 04-1312 (D.C. Cir., June 10, 2005) (rejecting
agency’s interpretation of a regulation as “particularly untenable
because it would render the pertinent regulation a nullity.”)
(emphasis removed).
FERC also argues, somewhat puzzlingly but consistent with
its statements in the Remand Order, that the ISO Tariff
provisions “leave[] open the question of who should pay the cost
differentials.” Govt. Br. at 26. In so arguing, FERC undermines
10
its own position–that the TOs cannot recover the cost
differentials through the TO Tariffs–when it notes that “the
Commission responded to that position by concluding recovery
through the TO Tariff is not the sole option,” and “recognize[d]
the TO Tariff as an option.” Govt. Br. at 29 (emphases in
original).
Further, FERC argues that despite the plain text of the ISO
Tariff, the “cost causation principle” dictated shifting the burden
entirely over to the existing contract holders. Because FERC
has already approved the mechanism in the ISO Tariff for
collecting the cost differentials from the tariff customers, and
cannot retroactively reverse that determination in considering
individual TO Tariff filings, no argument concerning cost
causation, regardless of how compelling, would permit the
Commission to disregard the approved ISO Tariff. Should the
Commission upon further reflection consider that mechanism to
violate the cost causation principle, perhaps it may initiate
proceedings to change the ISO Tariff prospectively, but that is
not the case before us.
Thus, all of FERC’s counter-arguments fall away, leaving
us with the simple conclusion that FERC must follow its own
roadmap enunciated in the ISO Tariff, and, in rate proceedings,
affirm individual TO Tariffs that conform their rate design to the
ISO Tariff. FERC may not, as FERC staff asserted and the ALJ
agreed, “order modification of [Utility Petitioners’] TO Tariffs
irrespective of any inconsistencies that such an order might
create with the collective ISO Tariff.” Initial Decision, 88
FERC at 65,051.
If FERC decided, after it began to look at the individual TO
Tariffs, that allowing Utility Petitioners to include the cost
differentials associated with the formation of the California ISO
in the Access Charge collected from the new customers through
11
the Transmission Revenue Credit mechanism was unjust and
unreasonable cross-subsidization, the proper course of action
was to revise sections 2.4.4.4.4.5 and 7.1 of the ISO Tariff,
including the definition of Transmission Revenue Credit also
contained therein, as it is empowered to do under FPA § 206, 16
U.S.C. § 824e.
More generally, of course, agencies may alter regulations.
Agencies may even alter their own regulations sua sponte, in the
absence of complaints, provided they have sufficient reason to
do so and follow applicable procedures. See NRDC v. EPA, 859
F.2d 156 (D.C. Cir. 1988); see also Dana Corp. v. ICC, 703
F.2d 1297, 1305 (D.C. Cir. 1983) (“[T]he agency is entitled to
have second thoughts, and to sustain action which it considers
in the public interest upon whatever basis more mature
reflection suggests.”). But agencies may not keep regulations in
place and then disregard them in order to disapprove actions
taken by regulated entities to conform with those regulations.
Doing so is perhaps the essence of “arbitrary and capricious.”
Having so concluded, we need not reach the issue of
whether FERC was arbitrary and capricious in assigning blame
for the cost differentials to the Municipal Petitioners.
III. Conclusion
In sum, FERC acted arbitrarily and capriciously in
upholding the ALJ’s Initial Decision that disregarded the plain
language of sections 2.4.4.4.4.5 and 7.1 of the ISO Tariff, and
the definition of Transmission Revenue Credit contained therein.
Opinions 458 and 458-A are vacated, and the case remanded for
further proceedings consistent with the ISO Tariff.
So ordered.