Public Utilities Commission of the State of California California Electric Oversight Board, Pacific Gas and Electric Company Nevada Power Company Southern California Edison Co. ("Edison") Department of Water and Power of the City of Los Angeles, Public Service Department of the City of Burbank, Public Service Department of the City of Glendale, and Water and Power Department of the City of Pasadena (Collectively "Ladwp") Sempra Energy Mirant Americas Energy Marketing, L.P. Coral Power Ppm Energy Public Utility District No. 1 of Snohomish County, Washington Dynegy Power Marketing Inc., Intervenors v. Federal Energy Regulatory Commission, California Electric Oversight Board California Public Utilities Commission, Nevada Power Company Southern California Edison Co. ("Edison") Department of Water and Power of the City of Los Angeles, Public Service Department of the City of Burbank, Public Service Department of the City of Glendale, and Water and Power Department of the City of Pasadena (Collectively "Ladwp") Sem

Citations: 474 F.3d 587; 2006 U.S. App. LEXIS 31140Docket: 03-74207

Court: Court of Appeals for the Ninth Circuit; December 18, 2006; Federal Appellate Court

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The case involves a petition for review by the California Public Utilities Commission (PUC) and the California Electric Oversight Board (CEOB) regarding the Federal Energy Regulatory Commission's (FERC) approval of electric power rates in certain wholesale contracts. The key issue is whether FERC appropriately applied the Mobile-Sierra "public interest" doctrine in its review, or if it neglected its statutory duty to ensure that rates are "just and reasonable" as mandated by 16 U.S.C. § 824e(a). The context includes a related case, Public Utility District No. 1 v. FERC, which addresses similar challenges to FERC's decisions on electric power rates. The case was argued in December 2004 and filed in December 2006 in the Ninth Circuit Court of Appeals. Various parties, including intervenors such as Pacific Gas and Electric Company and Nevada Power Company, are involved in the proceedings alongside the primary petitioners and the respondent, FERC.

Mobile-Sierra establishes a presumption that wholesale electric power contracts negotiated by private parties are "just and reasonable" under the Federal Power Act (FPA), which can be rebutted by demonstrating that the contract negatively impacts the public interest. To invoke the Mobile-Sierra presumption, three prerequisites must be met: (1) the contract must not prevent a limited Mobile-Sierra review; (2) the regulatory framework must allow for timely FERC review of the rates; and (3) in cases where market-based rates are used, the review must consider all relevant factors regarding the contract's formation. In the previous PUD decision, two prerequisites were found lacking, prompting a remand to FERC to reassess the Mobile-Sierra applicability. Furthermore, even if the Mobile-Sierra presumption were correctly applied, FERC's conclusion that the contracts did not affect public interest was deemed based on an erroneous analysis.

In the current case, the petition to review is granted, and the matter is remanded to apply the review standards established in PUD. Background relevant to this case includes California's response to the energy crisis, which began after widespread blackouts and near insolvency of major utilities. Following a state of emergency declared by Governor Gray Davis on January 17, 2001, the California Department of Water Resources (CDWR) was directed to procure forward power swiftly. Assembly Bill 1 of the 2001-2002 First Extraordinary Session, passed on February 1, 2001, authorized CDWR to purchase power until the end of 2002. Between February 6 and August 23, 2001, CDWR entered into 57 forward contracts with various suppliers, some of which explicitly invoked the Mobile-Sierra "public interest" test, while others did not specify a review standard. These contracts included agreements with several companies, outlining specific delivery periods and rates ranging from $70 to $249 per megawatt-hour (MWh).

Under AB1X, California electricity consumers are responsible for the costs of contracts made by the California Department of Water Resources (CDWR), as mandated by CAL. WATER CODE § 80104. Retail end-use customers are recognized as having purchased power from the department upon delivery, creating a direct payment obligation to it. The Public Utilities Commission (PUC) indicated that costs from CDWR contracts are transferred to retail customers via their electricity rates, leading to local utilities, like Pacific Gas and Electric, passing these costs to consumers. The Federal Energy Regulatory Commission (FERC) has expressed concerns regarding whether the contracts in question impose rates exceeding competitive prices but has not disputed that these costs are ultimately borne by California consumers.

On June 19, 2001, FERC enacted a price mitigation order for spot markets across several western states, which effectively lowered prices back to pre-crisis levels. On February 25, 2002, the PUC filed complaints under the Federal Power Act, seeking modifications to all CDWR power contracts from 2001, claiming an overall overcharge of $1.4 billion. Following a series of orders, FERC initiated a hearing on April 25, 2002, to assess the impact of California's dysfunctional spot markets on long-term contracts and whether modifications were justified, particularly for contracts invoking a "public interest" review under the Mobile-Sierra doctrine. Contracts executed after June 20, 2001, were dismissed from consideration, and both the PUC and the California Energy Oversight Board (CEOB) were deemed to assume CDWR's role, as state agencies.

During the hearings, the Administrative Law Judge (ALJ) denied PUC's discovery requests concerning sellers' market power, affirming the dysfunctionality of the California spot markets. The ALJ also excluded certain expert testimony related to market power in forward markets. At the hearing's conclusion, FERC established a dual process: for contracts with explicit "public interest" provisions, the ALJ was to certify the record to the Commission, while for other contracts, the ALJ was to determine if the parties intended the public interest test to apply.

On February 10, 2003, FERC issued an order relating to spot market manipulation, allowing over 100 days of discovery and requiring parties to provide an indexed list of discovered materials for related proceedings. This led to the discovery of additional evidence of manipulation. On March 26, 2003, FERC staff released a "Final Report on Price Manipulation in Western Markets," which indicated that dysfunction in the spot market adversely affected forward markets.

On June 26, 2003, FERC issued an initial decision rejecting all claims made by the Public Utilities Commission (PUC) and determined that the "public interest" test would apply to all contracts involved. Consequently, evidence regarding the adverse effects of spot market dysfunctions on forward markets was deemed irrelevant, as the "just and reasonable" test did not apply. FERC stated that to modify contracts under the public interest standard, it must be shown that the rates and terms contradict the public interest, rather than merely being unjust due to spot market dysfunction.

FERC found that PUC did not meet the three prongs of the public interest test established by Supreme Court precedent and failed to demonstrate that the contracts placed complainants in financial distress. This conclusion was based on a comparison of the California Department of Water Resources' (CDWR) pricing goals and actual portfolio costs. Commissioner Massey dissented, arguing that the application of the public interest test was inappropriate and maintained that PUC demonstrated a strong connection between the California spot market and forward contracts, satisfying both the just and reasonable and public interest standards for contract reformation.

FERC denied rehearing on November 10, 2003, and one week later, PUC and CEOB filed petitions for review with the court.

FERC's legal decisions are subject to de novo review, focusing on whether decisions are arbitrary, capricious, an abuse of discretion, unsupported by substantial evidence, or legally unfounded. The court assesses factual findings based on substantial evidence, upholding them if all relevant factors are considered without clear error. Agencies receive deference when relying on one expert opinion among competing views and are not required to justify deviations from staff recommendations unless those recommendations are critical to resolving an issue.

FERC may apply the Mobile-Sierra "public interest" review only if three conditions are met: (1) the contract does not prohibit limited Mobile-Sierra review; (2) the regulatory framework allows effective, timely review of contracted rates; and (3) FERC's reliance on market-based rate-setting must consider all relevant factors for contract formation. In the current case, the contracts either explicitly allow for Mobile-Sierra review or do not exclude it, thus the focus is on whether the remaining conditions were satisfied.

Effective oversight that allows timely reconsideration of market-based rates is necessary for limited Mobile-Sierra review. The court criticized FERC's oversight approach, which fails to address sudden market changes and offers no protection against seller abuses. The argument that petitioners should have challenged market-based rate authority before entering contracts is deemed unpersuasive, as it does not provide a basis for reforming the contracts. Dynegy's unique argument about a specific contract, which allowed public comment, is noted, but the lack of substantive challenges during that period is highlighted.

FERC's acceptance of the Dynegy contract filing did not equate to approval of its rates and lacked prior endorsement, similarly to other contested contracts. At the time of Dynegy's filing, the understanding of spot market manipulation and forward market dysfunction was limited, which hindered challenges to the contract during the public comment period. FERC's failure to maintain effective oversight of rates and to apply the Mobile-Sierra doctrine appropriately was noted, as it neglected to consider the market conditions at the time of contract formation. Specifically, FERC dismissed evidence of market dysfunction as irrelevant unless the "just and reasonable" standard was first met. This approach was erroneous, as Mobile-Sierra cannot be invoked without confirming that contracts were formed without improper influences, like market manipulation. Additionally, FERC's affirmation of the ALJ's exclusion of crucial evidence from the PUC regarding the impact of spot market manipulation on forward prices further compounded its errors. On remand, FERC must reevaluate the excluded evidence and other pertinent information to decide the applicability of the Mobile-Sierra presumption accurately. Furthermore, FERC incorrectly assessed the public interest by applying inappropriate legal standards relevant to a low-rate challenge instead of addressing the high-rate context of this case.

FERC concluded that the contested contracts did not impact the public interest, as PUC provided minimal evidence regarding the Mobile-Sierra standard. Complainants failed to meet any of the three criteria established in the Sierra case or to present evidence warranting modification of the contracts. FERC found that consumers did not experience an "excessive burden," making the question of whether any burden existed irrelevant. Under California law, costs from the contracts were passed to consumers, and while there was a debate about retail rate increases, it was not determinative; higher wholesale rates could still have led to elevated retail rates regardless of immediate increases.

FERC granted PUC's petition concerning the dismissal of its complaint about CDWR's contract with PPM. The dismissal was only valid if FERC considered all relevant factors and determined that a hearing was unnecessary. However, FERC did not assess whether market dysfunction persisted after its June 19 Order, which PPM argued distinguished its contract. Evidence suggested the forward markets had not stabilized by the time of the PPM contract, contradicting PPM's claims. FERC's Staff Report indicated ongoing effects from the crisis on contracts made post-June 19, implying that FERC should have explored these lingering issues.

Consequently, a remand was required for FERC to apply the appropriate statutory standards, first to ascertain if Mobile-Sierra review applies, then to implement the modified Mobile-Sierra review as discussed in PUD, or, if not applicable, to conduct a full just and reasonable review of the contracts. The petition for review was granted and remanded.

The Commission is authorized to determine and enforce just and reasonable rates, charges, classifications, rules, regulations, practices, or contracts for public utilities when it finds existing ones to be unjust, unreasonable, or discriminatory. The excerpt indicates a disagreement among parties about whether the identity of the parties involved—specifically, state agencies not party to the agreements—affects the application of the Mobile-Sierra doctrine. The court concludes that it need not address this issue since it has determined that FERC made an error for other reasons regarding Mobile-Sierra. Specific contracts mentioned include those from Coral, Mirant, Dynegy, Sempra, and PPM. The language cited aligns with previous FERC orders. Dynegy's argument concerning the prior review requirement for Mobile-Sierra is noted, but even if valid, it does not negate other independent reasons for supporting the PUC's petition for review. Lastly, the Commission's focus is on whether rates are so low that they could harm public interest, which includes the utility's financial viability and equitable burden on consumers.