An extract from The Energy Regulation and Markets Review - Edition 10

Regulation

i The regulators

Multiple federal and state agencies, departments and other government entities regulate US energy development, the ownership, control and operation of electric energy assets, and natural gas and oil production, gathering, transmission, transportation and distribution.

The Federal Energy Regulatory Commission (FERC) is an independent federal regulatory agency established by the United States Congress to license hydroelectric facilities and to regulate (1) wholesale sales of electric energy and natural gas, (2) the transmission of electric energy in interstate commerce and (3) the transportation by pipeline of natural gas in interstate commerce. Subsequently, FERC's authority was expanded to include the regulation of interstate shipments of certain liquid fossil fuels via pipelines, including crude oil, petroleum products and natural gas liquids, such as propane and ethane. FERC's authority is granted, and limited, by statutes amended over time, including the Federal Power Act of 1935 (FPA), the Natural Gas Act of 1938 (NGA), the Public Utility Regulatory Policies Act of 1978, the Natural Gas Policy Act of 1978, the Interstate Commerce Act of 1887, the Energy Policy (EP) Acts of 1992 and 2005, the Public Utility Holding Company Act of 2005 and the Department of Energy Organization Act of 1977 (the DOE Organization Act).

The Nuclear Regulatory Commission is an independent federal regulatory agency established by Congress to formulate policies and regulations governing nuclear reactor and materials licensing and safety. The Nuclear Regulatory Commission's authority is granted, and limited, by statutes amended over time, including the Atomic Energy Act of 1954 and the Energy Reorganization Act of 1974.

The Department of Energy (DOE) is an executive department created in 1977 via the DOE Organization Act whose current mission 'is to ensure America's security and prosperity by addressing its energy, environmental and nuclear challenges through transformative science and technology solutions'. DOE is led by the Secretary of Energy, a member of the President's cabinet. FERC is an independent regulatory agency within DOE and, under the DOE Organization Act, DOE and FERC have sometimes overlapping and sometimes separate authorities under their relevant organic statutes, including the FPA and the NGA.

Numerous other federal agencies and departments regulate certain aspects of the US energy industry, including the Department of Transportation's Pipeline and Hazardous Materials Safety Administration (PHMSA) and Maritime Administration, the Environmental Protection Agency, the Army Corps of Engineers, the Commodity Futures Trading Commission, the Federal Trade Commission and the United States Departments of Agriculture, Interior, State, Commerce and Justice. The production and gathering of crude oil and natural gas, the siting and construction of energy facilities (except hydroelectric and natural gas facilities regulated by FERC), and the distribution and retail sale of electric energy and natural gas are generally governed by individual state regulatory agencies. In many states, public utility regulation is carried out by public service commissions or public utility commissions (PUCs) or municipal agencies (or both). The jurisdiction of these state and local regulatory agencies over energy companies is created by state constitutions and statutes and, like most state regulation in the United States, is also subject to the supremacy of the US government under the United States Constitution and federal statutes, except in certain limited circumstances.

ii Regulated activities

Many aspects of energy development, generation, production, transmission, transportation and distribution are subject to some federal or state regulation.

FERC regulates the rates, terms and conditions of wholesale sales of electric energy in interstate commerce and the transmission of electric energy in interstate commerce. FERC also regulates the rates, terms and conditions of service on natural gas and oil pipelines. Entities making sales of FERC-jurisdictional products or services obtain rate approval from FERC. FERC rates for electricity transmission and interstate natural gas transportation and storage are typically either cost-based (i.e., based on the costs of providing the product or service, including a reasonable return on equity investment) or market-based (i.e., negotiated or market-determined). Rates for petroleum pipeline transportation services may be based on historical and projected costs, and most pipeline rates are adjusted based on changes in a producer price index that measures the average change over time in the selling prices received by US producers for their output (plus a FERC-specified adjustment). FERC also regulates entities subject to its jurisdiction with respect to matters that may affect rates, including accounting, record-keeping and reporting, and, with respect to companies regulated under the Federal Power Act, direct issuances of securities and direct and indirect transfers of control over FERC-jurisdictional facilities.

Under the NGA, FERC is authorised to approve the construction and operation of new or expanded (and the abandonment of existing) interstate natural gas pipeline and storage facilities, and liquified natural gas (LNG) import and export terminals. Owners of natural gas facilities authorised by FERC (but not LNG terminals) may call on a federal power of eminent domain to condemn land on which to site approved facilities. As a condition to the construction of new natural gas pipeline and storage facilities, FERC may require natural gas companies, among other things, to conduct an 'open season', during which potential customers may subscribe to transportation or storage capacity on a non-discriminatory basis and existing customers may turn back capacity that may result in the downsizing or elimination of the new facilities. In exercising its rate jurisdiction over electricity transmission facilities and oil pipelines, and in conjunction with its open access requirements, FERC has also required open seasons for some or all new or expanded capacity on certain electricity transmission and oil pipeline facilities.

The NGA was amended in 2005 to expedite the authorisation process for the construction of interstate natural gas pipelines and storage facilities, and to clarify and modify FERC's review and approval of the construction and operation of LNG import and export terminals. FERC has also not exercised any authority to regulate the rates, terms and conditions of service of LNG facilities and instead has continued to allow LNG import and export terminals to charge market-based rates and to operate without imposing open access requirements. Under the FPA, FERC also has siting approval authority with respect to hydroelectric generating facilities to be constructed on navigable waterways. In 2005, Congress also gave FERC 'backstop' siting authority under the FPA to issue permits for the construction of transmission lines when DOE designates important 'national interest electric transmission corridors' (NIETC) for geographical areas experiencing transmission constraints or congestion that adversely affects consumers, although the scope of FERC's backstop siting authority and DOE's NIETC designation authority under the FPA remains unclear as a result of judicial decisions in the US Courts of Appeals.

The PHMSA regulates the safety of most US pipelines and LNG terminals. Although it is responsible for enforcement of US laws setting minimum pipeline and LNG safety standards, the PHMSA allows states to assume inspection and enforcement authority if the state has adopted the federal minimum standards into law.

Pipelines located in US waters on the Outer Continental Shelf are subject to regulation by the US Department of Interior under the Outer Continental Shelf Lands Act of 1953, as amended in 1978, by two bureaus: the Bureau of Ocean Energy Management and Bureau of Safety and Environmental Enforcement (BSEE). Offshore pipelines located within three miles of the United States are also often subject to state regulation.

State PUCs generally regulate the distribution and delivery of electricity and natural gas to retail customers, including rates, terms and conditions for retail sales and distribution of electric energy and natural gas, and the safe and reliable delivery of electricity and natural gas to retail customers in the state. State PUCs may also regulate rates and operating conditions for intrastate natural gas pipelines and storage services and for intrastate deliveries of liquid fossil fuels by pipeline. Siting approvals for the development and construction of new energy facilities are often required at the state or local government level.

iii Gathering, terminalling, processing and treatment of natural gas and oil

In states where natural gas and oil exploration and development is active, state agencies often possess regulatory authority over gathering (typically the collection and movement of resources by pipeline from production wells to a centralised processing station or other central collection point) of natural gas and oil. Many states have adopted rateable take and common purchaser statutes, which generally require gatherers to take or purchase, without undue discrimination, production that may be tendered to the gatherer for handling or sale. These statutes are generally enforced by PUCs only when a complaint is filed. The processing and treatment of natural gas and the storage and terminalling of oil are generally not regulated. However, FERC has jurisdiction over the gathering of oil by pipelines if the gathering is part of a movement of the oil in interstate commerce. FERC may regulate a natural gas gathering or processing line if it determines that the primary function of the line is the transmission (not gathering) of gas, and it may regulate an oil pipeline terminal or storage facility if it determines the facility is a necessary component of the pipeline's transportation function.

Regulation of the safety of natural gas gathering and processing facilities largely depends on the location and configuration of the facilities. Some facilities may be unregulated; others may be regulated by one or more state and federal agencies, to include the PUC, the PHMSA, BSEE and the Occupational Safety and Health Administration.

iv Ownership, market access restrictions and transfers of control

The Committee on Foreign Investment in the United States oversees foreign investment in existing companies and assets in the United States, including in the energy industry, with the President having ultimate authority to deny foreign investment that may adversely affect national security. Other than with respect to nuclear energy, there is little restriction on foreign ownership of energy assets in the United States under US energy-specific laws and regulations.

FERC approval is generally required for the direct transfer of natural gas facilities subject to FERC's jurisdiction, including transfers that spin down or partially remove facilities from FERC's jurisdiction (or reduce current services). In reviewing a proposed direct transfer of interstate natural gas facilities, FERC must determine whether the 'abandonment' of the facilities by the transferor is consistent with, and the ownership and operation of the facilities by the transferee 'is or will be required by', the 'present or future public convenience and necessity'. In both cases, FERC applies a public interest test that considers matters such as the effect of the transfer on competitive conditions and existing customers and services, including rates.

FERC also regulates the direct and indirect transfer of ownership or control over electricity transmission and generation facilities as well as the rate schedules pursuant to which electric energy or transmission service is provided. In reviewing a proposed transfer of electricity transmission or generation facilities and associated rate schedules, FERC must determine whether the transaction is consistent with the public interest, including the effects on competition (examining horizontal market power, vertical market power and barriers to entry), rates and regulation. FERC also considers whether the transaction would result in the cross-subsidisation of a non-utility affiliate of a public utility or the pledge or encumbrance of utility assets for the benefit of a non-utility affiliate of a public utility.

The PHMSA requires operators of regulated facilities to provide notice of certain transfers, name changes, acquisitions and divestitures no later than 60 days after the event. New operators must also be fully in compliance with the PHMSA regulations, including drug-testing, record-keeping and operator ID requirements, upon owning or operating an active or idled pipeline.

Certain states also require that entities obtain PUC approval prior to the direct and, in some jurisdictions, indirect transfer of assets subject to the jurisdiction of the PUC. While many state statutes require PUCs to evaluate whether a proposed transaction is consistent with the public interest, PUCs vary as to whether they interpret their jurisdiction as requiring a showing that the transaction will not result in net harm to the public or a showing that the transaction will affirmatively provide net benefits to the public.