At its November 15, 2012 open meeting, the Federal Energy Regulatory Commission ("FERC") issued a policy statement that revises and clarifies the standards that applicants must meet in order to receive transmission incentives for new transmission projects.[1] The Policy Statement requires a detailed, project-specific showing to establish the "nexus" between the requested rate incentives and the risks and challenges associated with individual transmission projects, thereby moving away from the prior approach that focused on whether a project was "routine" or "non-routine." Moreover, the Policy Statement directs applicants seeking FERC approval to build into their rates for electric transmission service a higher level of return on equity ("ROE") to evaluate the impact of certain "risk-reducing" incentives, a hurdle that will make it more difficult for applicants to qualify for such incentive returns.

Six years ago, pursuant to Section 219 of the Federal Power Act,[2] the FERC promulgated Order No. 679, which established incentive-based treatments to encourage investments in electric transmission infrastructure with the stated goal of ensuring reliability and reducing the cost of delivered power by reducing transmission congestion.[3] The FERC reports that it has evaluated more than 85 applications for transmission incentives sought in connection with more than $60 billion in proposed transmission projects. In May of 2011, the FERC issued a Notice of Inquiry ("NOI") seeking comments on its transmission rate incentive policies. The Policy Statement reflects these comments and the Commission's experience in prior incentive application proceedings. The Policy Statement does not prescribe new regulations but articulates policies and standards that will be applied to incentive applications submitted after November 15, 2012.

In the Policy Statement, the FERC explained that Order No. 679 required applicants to demonstrate that each requested incentive was tailored to the risks and challenges faced in constructing new transmission, i.e., the "nexus test." Over time, the FERC had adopted a proxy for the nexus test based on whether a project was "routine" or "non-routine."[4] The Policy Statement refocuses the nexus test, and the FERC no longer will rely on the routine/non-routine analysis. Rather, the FERC will analyze demonstrable risks and challenges for specific proposed projects and will grant only those incentives that individually, and as a package, alleviate the project-specific risks and challenges.

In addition, the Policy Statement marks a shift in how the FERC will treat requests for incentive ROE. The FERC states that before seeking incentive ROE based on a transmission project's risks and challenges, applicants must seek to reduce such risks not otherwise accounted for in its base ROE by using risk-reducing incentives.[5] Accordingly, the FERC will require an applicant seeking an incentive ROE to make four showings as part of its application:

  1. Incentives Are Needed to Reflect Risks Not Already Addressed. Applicants must demonstrate that the proposed project faces risks and challenges that are neither accounted for in the applicant's base ROE nor addressed through risk-reducing incentives.[6] In the Policy Statement, the FERC provides specific examples where an incentive ROE would be appropriate. These include (i) projects that will relieve chronic or severe grid congestion with demonstrated cost impacts to consumers; (ii) projects that unlock location-constrained generation resources that, without the project, have limited or no access to the wholesale electricity markets; and (iii) projects that apply new technologies to facilitate more efficient and reliable usage and operation of existing or new facilities.
  2. Applicant Has Taken Steps to Minimize Risk During Project Development. Under the Policy Statement, an applicant must demonstrate that it is taking appropriate steps and using appropriate mechanisms to minimize its risks during project development.[7] The FERC suggests, for example, that applicants could take measures to mitigate risks associated with siting and environmental impacts by pursuing joint ownership arrangements.
  3. Alternatives to the Proposed Project Were Considered. The applicant must demonstrate that alternatives to the project have been, or will be, considered in either a relevant transmission planning process or another appropriate forum.[8] For example, the applicant could show that its project was, or will be, considered in a transmission planning process that complies with FERC planning standards[9] and thus provides the opportunity for the project to be compared against transmission or non-transmission alternatives.
  4. ROE Incentive Is Limited to Initial Cost Estimate. An applicant must demonstrate that it will not apply the incentive ROE component of its transmission rates to costs that exceed the transmission project's estimated costs at the time the project is evaluated and/or approved in a regional planning process.[10] The FERC states that it is open to approaches that control transmission development costs and provide more transparency on how incentives will be applied to costs beyond initial estimates.

As the FERC applies its new Policy Statement, applicants for incentive rate treatment should be prepared to make more detailed and tailored showings in their applications. The FERC will require the applicant to explain how each requested incentive reduces a specific risk associated with the proposed project. Applicants also should expect the FERC to be stingier on requests for incentive ROE. The Policy Statement makes it clear that the FERC considers incentive ROE as a "last resort" that is applicable only to projects with risks that cannot be reduced by other measures.

A link to the Policy Statement is provided here.