On July 19, 2012, the Federal Energy Regulatory Commission (“FERC”) issued a series of orders that show it will take more than simply eliminating rights of first refusal to build transmission facilities from FERC tariffs to level the playing field for new transmission developers to get into the game. The orders signaled that FERC may effectively limit third party transmission developers to competition to build transmission facilities to economic upgrades and policy upgrades. The orders may impact the approach that utilities take in their Order 1000 compliance filings this Fall.

I. Order Nos. 1000 and 1000-A

Order 10001 envisions a level playing field where new transmission developers can compete with established transmitting utilities for the right to build new transmission lines. The order directed jurisdictional utilities to make compliance filings that eliminate any federal right of first refusal contained in their tariffs. The Commission was concerned that “federal rights of first refusal create opportunities for undue discrimination and preferential treatment against non-incumbent transmission developers within existing regional transmission planning processes.”2 FERC also believed “that expanding the universe of transmission developers offering potential solutions can lead to the identification and evaluation of potential solutions to regional needs that are more efficient or cost-effective.”3 The only exceptions were to be for local projects that are not subject to regional planning or cost allocation, upgrades of existing transmission facilities, and currently planned transmission projects.4 FERC has given regional transmission organizations the flexibility to solicit sponsors for transmission upgrades through competitive bidding procedures, but did not mandate this approach.

II. FERC’s July 19, 2012 Orders

In five orders issued on July 19, 2012, the Commission addressed disputes over transmission build-out rights that arose through the transmission planning processes in two of the country’s largest RTOs, PJM Interconnection, Inc. (“PJM”) and the Midwest Independent Transmission System Operator, Inc. (“MISO”). FERC interpreted the RTOs existing rules to favor the incumbent transmission owners, but two Commissioners (Chairman Wellinghof and Commissioner Moeller) issued separate statements saying the cases highlighted the need for the Commission to carefully scrutinize Order 1000 compliance filings on the ROFR issue.

A. Three PJM Interconnection Orders Draw a Distinction between Economic and Reliability Projects in Application of the Right of First Refusal.

Building on earlier rulings that held the PJM tariff contains no federal ROFR to build transmission facilities to meet economic needs, FERC nevertheless upheld PJM’s decision to award transmission construction rights for economic projects to the incumbent utilities. The Commission drew a distinction between transmission projects proposed to resolve an economic planning need, for which it said there is no tariff-based ROFR, and those proposed to resolve a reliability planning need, for which FERC said the PJM tariff gives a ROFR to the incumbent utilities.

In Primary Power, LLC,5 the Commission affirmed that the PJM Regional Transmission Expansion Plan (“RTEP”) procedures do not establish a right of first refusal on behalf of incumbent transmission owners and do not preclude non-incumbent developers selected in the RTEP from building transmission assets and collecting cost-based rates for service using those assets. The Commission limited its ruling to issues relating to economic planning projects under the RTEP procedures. The Commission found that the PJM RTEP procedures for economic projects were designed to provide an opportunity for a wide variety of participants and different business models to propose project that would be economically beneficial by reducing energy costs by more than the cost of the project. FERC stated that transmission owners were permitted to participate in this process, but were neither guaranteed the right to construct the project nor were obligated to undertake such construction. FERC reached the same result in a companion case, Central Transmission, LLC v. PJM Interconnection, L.L.C.6

Nonetheless, in Primary Power, LLC v. PJM Interconnection, L.L.C.,7 FERC affirmed PJM’s decision to award the transmission upgrades proposed by Primary Power to the incumbent utilities. FERC found that PJM properly chose alternative projects proposed by Dominion and FirstEnergy because the incumbents could build them on their existing facilities more economically than Primary Power.

B. Two MISO Orders Uphold Existing Right of First Refusal – For Now.

In Pioneer Transmission, LLC v. Northern Indiana Public Service Company and Midwest Independent Transmission System Operator, Inc.,8 FERC dismissed the complaint of Pioneer Transmission that MISO improperly selected the incumbent utility, Northern Indiana Public Service Company (“NIPSCO”), to construct, own and operate certain transmission upgrades to its existing transmission substation over a proposal by Pioneer Transmission to construct, own and operate a new transmission substation nearby. The Commission found that the incumbent transmission owners have an existing and equal right as between them to own, and the responsibilities to construct, facilities which are connected between two or more of the owners’ facilities. Rejecting the non-incumbent transmission developer’s arguments that this contract language violates Order No. 1000, FERC said elimination of the ROFR will be prospective only following the approval by the Commission of the compliance filings due in October 2012.

Similarly, in Xcel Energy Services Inc. and Northern States Power Company, a Wisconsin corporation v. American Transmission Company, LLC,9 the Commission found that MISO has the authority to require American Transmission Company, LLC (“American Transmission”) to share with Xcel the construction, ownership and operation of a transmission facility. Under the MISO Tariff, MISO is responsible for approving a regional expansion plan that designates the transmission owners responsible for particular facilities. The Commission clarified that the issue before the Commission was whether the Transmission Owners Agreement requires American Transmission and Xcel to share responsibility for the La Crosse-Madison Line and whether MISO has appropriately exercised its designation authority in a manner consistent with the Transmission Owners Agreement and the Tariff—not whether a prospective builder must receive a state certificate of public convenience and necessity in order to build transmission facilities in Wisconsin. The Commission found that the Transmission Owners Agreement requires MISO transmission owners to share responsibility for interconnecting facilities and that MISO properly exercised its designation authority in accordance with the Transmission Owners Agreement and the Tariff in designating both American Transmission and Xcel as the parties responsible for the La Crosse-Madison Line.

The Commission was not convinced that if a transmission owner is compelled to surrender 50 percent ownership of a project because it interconnects with another transmission owner’s facilities, then no third party would have the right to construct and own facilities in the MISO region. The Commission clarified that third parties can participate in the financing, construction and ownership of new transmission facilities as specified in the MISO MTEP only if the interconnecting transmission owner is unwilling or unable to assume responsibility for the project.

The Commission confirmed, however, that even though the Commission required the elimination of a federal right of first refusal in Order No. 1000, it did so on a prospective basis upon Commission acceptance of the compliance filings due on October 11, 2012. The Commission reiterated that it will scrutinize the Order No. 1000 compliance filings and related implementation to ensure that Commission-jurisdictional tariffs and agreements are just and reasonable and not unduly discriminatory.

The five orders underscore FERC’s respect for the transmission planning and project selection rules in the filed regional tariffs for MISO and PJM, while noting FERC’s intent to revisit the procedures for selecting project sponsors through Order 1000 compliance filings. That said, the orders also illustrate several inherent advantages that incumbent transmission owners hold over would-be competitors that are likely to become the new battleground as the compliance filings take shape.

One is the cost advantages that incumbent utilities may have to add transmission facilities more economically than third parties can. The incumbents own and know the existing transmission assets, which gives them an advantage in designing least-cost transmission solutions. Coupled with the ability to use existing rights-of-way, these inherent home field advantages can better position incumbent utilities to present transmission proposals that will cost less than similar solutions presented by new entrants. Incumbent transmission utilities may seek to ensure that these advantages are reflected in the RTO rules for selecting new transmission projects, perhaps by including important details and selection criteria in business practice manuals that are not subject to direct FERC scrutiny through Order 1000 compliance filings. In the Primary Power case, the incumbent utilities were able to propose cheaper transmission solutions because they could build transmission facilities (static var compensators) at the most optimal locations, which happened to be inside of their own substations. Primary Power, on the other hand, faced a cost barrier because it had to build new substations to attach the SVCs. FERC may find it necessary to address this home field cost advantage in Order 1000 compliance filings, and thereby set up a legal challenge over its authority to order utilities to give third parties access to their transmission assets for the purpose of building new transmission facilities.

Another advantage lies in existing property rights, and even through eminent domain rights that vary from state to state. It is unlikely that any compliance filing will force incumbent transmission owners to cede access rights to property through easements or other instruments of state law, which will force new transmission developers to acquire potentially duplicative property rights at greater (perhaps much greater) expense. Further, unless state law confers eminent domain rights on non-incumbents (that may not qualify as “electric utility companies”—or similar entities—under state law), which is typically not the case, the new-comers may find barriers to acquiring needed easements to be prohibitive from the standpoint of both cost and the time it takes to acquire property interests. Again, FERC may find it necessary to address this disparity between state and federal law, even though FERC said in Order 1000 that it did not intend to intrude on state laws that give advantages to the incumbent utilities.

Finally, even though electrical engineers can design transmission upgrades to meet North American Electric Reliability Corporation standards and install them using “good utility practice,” there may be a bias against letting new entrants build transmission assets out of fear that something could go wrong that hurts grid reliability. Whether fair or not, this perception may tilt the decision in favor of the incumbents—particularly for projects that are proposed specifically to address reliability concerns. Even for economic or public policy upgrades, reliability concerns may tilt the playing field towards the incumbents, especially if the expected cost difference between proposals by the incumbent and the newcomer is small. The question of how much weight, if any, to be given to reliability concerns may play out in Order 1000 compliance filings, forcing FERC to take a stand on the reliability question and whether to let RTOs give it weight in true reliability-based projects.

If FERC sidesteps these issues, its promise to carefully scrutinize Order 1000 compliance filings to address the advantages that incumbent transmission owners have to build transmission upgrades may not produce meaningful changes. In that case, the post-Order 1000 world may not be much different than it is today when it comes to competition to build transmission upgrades.