On April 19, 2016, the Ontario Court of Appeal released its decision in Iroquois Falls Power Corporation v. Ontario Electricity Financial Corporation. The decision concerned a dispute between several non-utility generators (“NUGs”) and the Ontario Electricity Financial Corporation (“OEFC”) over changes to a price adjustment index contained within the long-term contracts for the purchase of electricity generated by the NUGs.

This change affected a component portion of a measure known as Total Market Costs (“TMC”), which measure was used to derive the price adjustment index. At the heart of the dispute was an issue of contractual interpretation—whether or not the terms of the power purchase agreements (“PPAs”), and in particular, the price adjustment indices contained within them, required the calculation of the component portion of the TMC to reflect the actual costs of providing existing and new electricity generation.

OEFC changes detach GA component from underlying market costs

Following the opening of the Ontario wholesale electricity market to competition, the parties amended their price adjustment indices to refer to the TMC, which is an aggregation of several costs associated with the production and delivery of electricity to customers directly connected to the IESO-controlled grid.

In 2005, the Global Adjustment (“GA”) was introduced by the Ontario government as a means of passing on out-of-market, indirect electricity costs from government agencies to electricity consumers. The same year, the GA was introduced as a component of TMC.

In 2010, the Ontario government changed the manner the GA was allocated such that customers with monthly average demand of over 5 MW (Class A) would pay GA costs based on their electricity consumption during only five peak demand hours in the prior year, while those with lower demand (Class B) would pay GA based on the volumetric basis previously used to determine the GA for all customers. In response to this change, the OEFC changed the formula for calculating the GA component of the TMC, basing it on the average critical peak demand of Class A customers during the five peak hours. This resulted in a significant reduction in the GA component of the TMC and a corresponding reduction in the price adjustment received by the NUGs under their PPAs.

The Ontario Superior Court did not err in its assessment of the TMC component of the PPA price adjustment index

Before the Superior Court, the OEFC pled that the price adjustment index was “price” linked as opposed to “cost” linked, and was always intended to reflect the price of electricity to certain customers, making it permissible for some costs to go unaccounted for. The Superior Court ruled against the OEFC, prompting the OEFC to appeal the decision.

The Court of Appeal rejected each of the OEFC’s grounds of appeal. The Court of Appeal followed the approach taken by the Supreme Court of Canada in Sattva Capital Corp. v. Creston Moly Corp., 2014 SCC 53, an approach which recognizes that contractual interpretation “will often require a consideration of a unique constellation of specific words used in a specific context and in specific circumstances”, which the trier of fact is in a better position to assess.

The Court of Appeal emphasized that PPAs, in particular, were likely to require a highly contextual approach given that, as negotiated agreements, the PPAs were designed by the parties to address “a very specific ongoing business relationship” and that it was “difficult to imagine an exercise in contractual interpretation that would be more fact-specific”.

In keeping with this approach, the Court of Appeal reviewed the history of the electricity market in Ontario, noting that when Ontario Hydro, as predecessor to the OEFC, and the NUGs initially entered into the PPAs, the parties intended for the NUGs to supply power at no greater cost than Ontario Hydro would have incurred had it chosen to construct and operate new facilities on its own. The Court of Appeal also accepted that the parties knew and understood that the costs of generating and supplying electricity would rise over the lifespan of the PPAs, and, in an effort to provide an uninterrupted long-term income stream, designed the predecessor price adjustment mechanism to provide for a level of income security for the NUGs through an index that would increase amounts payable as costs increased.

The Court of Appeal also found the Superior Court decision to have fairly described the consultations and negotiations which took place to adjust the PPAs after the opening of the Ontario electricity market. Finally, the Court of Appeal rejected the OEFC’s suggestion that the Superior Court had incorrectly implied a term into the PPA when the Superior Court found that the TMC was intended to reflect costs allocated on a pro rata basis.

Conclusion

With this favourable ruling by the Ontario Court of Appeal, subject to an appeal to the Supreme Court by the OEFC, the respondent power producers will be entitled to make use of the price adjustment clause as it was calculated prior to the changes to the GA component of the TMC.

The Court of Appeal’s decision is available at: http://www.ontariocourts.ca/decisions/2016/2016ONCA0271.pdf