On November 19, 2015, the Federal Energy Regulatory Commission ("FERC") released its annual report on enforcement activities for fiscal year 2015. The report highlights FERC's continued focus on incidents involving fraud, market manipulation, and other anticompetitive conduct in the markets subject to its jurisdiction. It also highlights the types of activities and conduct that have been subject to FERC scrutiny over the past year and provides informal guidance that jurisdictional entities should consider when evaluating their own conduct and compliance programs.
The most notable trend highlighted by FERC's report is the increasing willingness of market participants to challenge FERC's interpretation of its market manipulation authority under the Federal Power Act ("FPA"). Traditionally, most FERC investigations have been resolved by settlement in which the subject of the investigation agrees to pay civil penalties, disgorge unjust profits, and take other measures to avoid future noncompliance. In 2015, however, three companies refused to pay civil penalties assessed by FERC for alleged violations of the FPA's prohibition on market manipulation, forcing FERC to bring actions in federal district court seeking to enforce its assessment of approximately $49 million in civil penalties and $12 million in disgorgement of unjust profits.
In contrast to earlier years, only six investigations were resolved by settlement, resulting in approximately $26.25 million in civil penalties and disgorgement of nearly $1 million in unjust profits. Notably, only a single one of these cases involved allegations of market manipulation. The majority of the settlements resolved alleged violations of reliability standards in connection with the September 8, 2011 power outage in Southern California and Arizona, with an additional settlement resolving allegations that a gas pipeline had violated its tariff by failing to post notices of auctions of firm capacity as required.
These trends have resulted in an unprecedented amount of litigation for FERC's Office of Enforcement. As a result of the new cases described above and existing litigation, FERC now has a total of five actions pending in federal district court seeking to enforce FERC's penalty assessments, representing approximately $500 million in civil penalties and $41 million in unjust profits. As FERC staff acknowledged in its report, FERC's Office of Enforcement has never been involved in this much litigation in the course of a single year.
The recent increase in litigation is likely to have two consequences. First, as these cases work their way through the courts, it is very likely that we will receive further clarity regarding the scope of the prohibition on market manipulation and the limits of FERC's authority thereunder. This additional guidance regarding the bounds of permissible activity should prove useful to market participants evaluating the potential risks of their own trading activities. Second, with a greater portion of the Office of Enforcement's resources devoted to litigation, it is likely we will see delays in commencing and concluding open investigations. In recent years, we have noticed delays in active investigations, with matters staying open for a significant period of time, often with little or no activity. Such delays can result in significant costs and uncertainty for the companies that are involved in the investigations, even where it is ultimately concluded that the company at issue did not violate any applicable rules or regulations. Delays can also prevent market participants from receiving timely guidance regarding the bounds of permissible conduct, resulting in a significant delay between when conduct occurs and is ultimately subject to an enforcement action.
When presenting its report to FERC at the November open meeting, Office of Enforcement staff highlighted the significant role played by Independent System Operators ("ISO") and Regional Transmission Organizations ("RTO") in identifying potential anticompetitive or manipulative conduct. In particular, FERC staff noted that the majority of the 19 new investigations that it opened in 2015 were the result of referrals from RTOs and ISOs. As FERC staff acknowledged, this trend has resulted in an increased focus on gaming of the wholesale markets for electric energy and ancillary services. FERC staff emphasized, however, that they continue to actively monitor for any type of manipulative conduct, such as cross-market manipulation, withholding, and gaming strategies.
As in past years, FERC's staff report also provides an update on activities of the Office of Enforcement's Division of Audits and Accounting ("DAA") and identifies areas in which DAA has noticed companies have had difficulty complying with applicable rules and regulations. In 2015, DAA completed 22 audits of oil pipelines, public utilities, and natural gas companies. Based on these audits, DAA has identified a number of where it has observed consistent noncompliance by audited companies, including the following:
- Inappropriate inclusion of certain costs and inputs in the formula rates of jurisdictional transmission providers, including internal merger costs, tax prepayments, asset retirement obligations, state-approved depreciation rates, and distribution plant.
- Public utility transmission providers billing for service under their Open Access Transmission Tariffs using incorrect rates, posting inaccurate available transfer capacity data, failing to release capacity in accordance with their tariffs, and failing to follow scheduling protocols.
- Failure of natural gas pipelines to accurately post available pipeline capacity on their websites.
- Failure to accurately report and bid capacity additions into the markets operated by jurisdictional RTOs and ISOs.
- Untimely filing of FERC reports and failure to retain records in accordance with FERC regulations
- Accounting errors by oil pipelines impacting the accuracy of amounts reported in FERC Form No. 6, Annual Cost of Service Based Analysis Schedule, including failures to use FERC-approved depreciation rate, failures to account for subsidiaries using the equity method of accounting, and misclassification of carrier property, charitable donations, fines and penalties, and lobbying activities.
- Accounting and tariff issues involving natural gas pipelines, including failure to comply with the FERC gas tariff valuation method for system gas activities, misclassification of integrity management costs, and failure to properly account for penalty revenues, transmission mains and compression station expenses, line pack inventory changes, shipper imbalances and cash-outs, lost and unaccounted-for gas, and gains from the sale of cushion gas.
FERC staff's report indicates that DAA is highlighting these activities in hopes that it may encourage companies to pay closer attention to these areas and remedy any potential compliance concerns. In practice, it would be prudent for all companies subject to FERC's jurisdiction to review the FERC staff report and to review their activities and compliance programs in light of the informal guidance provided therein.
A copy of FERC's report is available here.