Louisville Gas & Elec. Co. v. Fed. Energy Regulatory Comm'n

• Decision Date: 17 February 2021
• Docket Number: No. 19-4225,19-4225
• Citation: 988 F.3d 841
• Parties: LOUISVILLE GAS & ELECTRIC COMPANY; Kentucky Utilities Company, Petitioners, v. FEDERAL ENERGY REGULATORY COMMISSION, Respondent, City Utility Commission of the City of Owensboro, Kentucky, Intervenor.
• Court: U.S. Court of Appeals — Sixth Circuit

988 F.3d 841

LOUISVILLE GAS & ELECTRIC COMPANY; Kentucky Utilities Company, Petitioners,

v. FEDERAL ENERGY REGULATORY COMMISSION, Respondent,City Utility Commission of the City of Owensboro, Kentucky, Intervenor.

No. 19-4225

United States Court of Appeals, Sixth Circuit.

Argued: October 7, 2020

Decided and Filed: February 17, 2021

ARGUED: Matthew C. Blickensderfer, FROST BOWN TODD LLC, Cincinnati, Ohio, for Petitioners. Carol J. Banta, FEDERAL ENERGY REGULATORY COMMISSION, Washington, D.C., for Respondent. David E. Pomper, SPIEGEL & MCDIARMID LLP, Washington, D.C., for Intervenor. ON BRIEF: Matthew C. Blickensderfer, FROST BOWN TODD LLC, Cincinnati, Ohio, Jason P. Renzelmann, FROST BROWN TODD LLC, Louisville, Kentucky, for Petitioners. Carol J. Banta, FEDERAL ENERGY REGULATORY COMMISSION, Washington, D.C., for Respondent. David E. Pomper, Thomas C. Trauger, SPIEGEL & MCDIARMID LLP, Washington, D.C., Patrick D. Pace, KAMUF, PACE & KAMUF, Owensboro, Kentucky, for Intervenor.

Before: BOGGS, STRANCH, and THAPAR, Circuit Judges.

THAPAR, Circuit Judge.

When you skip over the basics, things get complicated. At its core, this is a straightforward case of contract interpretation. But rather than address the operative text, the Federal Energy Regulatory Commission began with other portions of the contract and treated the matter as an invitation to make complex policy choices. The Commission's resulting order cannot withstand arbitrary-and-capricious review, so we grant the petition for review, vacate the order, and remand for another go.

I.

This dispute takes place against the backdrop of the interstate wholesale electricity market—not exactly everybody's cup of tea. So we begin with some (simplified) background.

A.

Start with the market itself.

Imagine you order hand sanitizer online. The company transfers the item from storage to a large truck. The truck gets on the road, merges onto the interstate, and covers an enormous distance. It passes through different states, some of which charge tolls. It maneuvers through different routes and turnpikes. Finally, the truck leaves the highway for a local road and drops off the item at your house.

The journey of electricity from a power plant to a home or business is not so different. A power plant creates the electricity. The electricity then travels long distances across "transmission lines." Fed. Energy Regulatory Comm'n ("FERC"), Staff Report, Energy Primer: A Handbook for Energy Market Basics 47, 54 (Apr. 2020) ("Energy Primer "); FERC, Staff Report, Reliability Primer 16 (Dec. 2016) ("Reliability Primer "). Interconnected transmission lines make up the grid (much like the interstate). Reliability Primer 16. And just as states control the roads within their borders, different utilities own and operate the transmission lines in their respective territories. That means that electricity must sometimes cross from one utility's lines to another's, and the wholesale customer incurs charges from each utility along the way. See Ill. Commerce Comm'n v. FERC , 721 F.3d 764, 778 (7th Cir. 2013) ; Wabash Valley Power Ass'n v. FERC , 268 F.3d 1105, 1116 (D.C. Cir. 2001). Eventually the electricity reaches the target geographic area and then travels across local "distribution lines" to the destination. Energy Primer 47; Reliability Primer 10.

Just as there may be separate charges for your hand sanitizer and its delivery, so too there are separate costs for the electricity and its transmission from the generator (power plant) to the destination. A wholesale purchaser of electricity can choose between paying for transmission as needed or securing a long-term reservation of transmission rights (like a membership). The former is cheaper (but may not always be available); the latter guarantees that the transmission lines will have capacity when the purchaser needs them. See Promoting Wholesale Competition Through Open Access Non-Discriminatory Transmission Servs. by Pub. Utils., Order No. 888, 61 Fed. Reg. 21,540, 21,573 –74 (1996) ("Order No. 888").

B.

Now consider one fear the government has about this market.

The Federal Energy Regulatory Commission regulates the wholesale electricity market. See New York v. FERC , 535 U.S. 1, 26, 122 S.Ct. 1012, 152 L.Ed.2d 47 (2002). Part of the agency's job is to improve reliability and to ensure that utilities’ rates and practices are "just and reasonable." Id. ; FERC v. Elec. Power Supply Ass'n , ––– U.S. ––––, 136 S. Ct. 760, 777, 193 L.Ed.2d 661 (2016). If the rates and practices are not just and reasonable, then the Commission must determine the proper remedy. 16 U.S.C. §§ 824d(a), 824e(a) ; Elec. Power Supply Ass'n , 136 S. Ct. at 774. One means of ensuring fair pricing is to promote "a free market in wholesale electricity." Elec. Power Supply Ass'n , 136 S. Ct. at 774 (citation omitted). The Commission's goal is to enhance competition.

One of the Commission's concerns is the "pancaked rate." See Reg'l Transmission Orgs., Order No. 2000, 65 Fed. Reg. 810, 915 (2000). To understand the pancaked rate, imagine that your delivery driver crosses through five states between loading the truck and delivering the hand sanitizer to your door. Now imagine that each state imposes a toll that you must ultimately pay (either as a surcharge to a one-time delivery fee or through a more expensive membership). The more states along the journey, the higher the charge, if each state charges a fixed fee for using its roads. Same for electricity: Each utility charges a fixed separate transmission fee, so the more utilities along the way, the higher the charge. That is the pancaked rate (i.e., multiple fixed transmission fees stacked on top of one another). In the Commission's view, pancaked rates stifle market competition and harm consumers. Id. at 817.

But there are ways around the pancaked rate. What if your state joined several of its neighbors to form a regional alliance? Collectively, they could agree that residents in each state get reciprocal access to roads throughout the region for one flat fee. Entities called independent system operators provide a similar solution for wholesale electricity customers. See Louisville Gas & Elec. Co. , 82 F.E.R.C. ¶ 61,308, p. 62,222 (1998) (" Merger Order"); Energy Primer 39. They take over operational control of interconnected transmission lines owned by different utilities. See Order No. 888 at 21,595–96; Energy Primer 39. The area controlled by the independent system operator is the operator's service territory. And the utilities that own the transmission lines within the area are the operator's members. Independent system operators then charge all wholesale customers a uniform rate for access to all the transmission lines in the service territory. Order No. 888 at 21,596. The Commission regulates their activity (just as it regulates the activities of utilities) and encourages the formation of these operators. Id. at 21,595 –96.

C.

The petitioners here—Louisville Gas and Electric Company, and Kentucky Utilities Company—own and operate electric generation, transmission, and distribution facilities in Kentucky and Virginia. Together, they serve nearly one million customers and own thousands of miles of electric transmission and distribution lines.

About two decades ago, Louisville Gas and Kentucky Utilities joined the Midcontinent Independent System Operator ("MISO"). See Louisville Gas & Elec. Co., et al. , 114 F.E.R.C. ¶ 61,282, p. 61,925 (2006) (" Withdrawal Order"). MISO operates across fifteen states (including Kentucky) and one Canadian province. MISO Transmission Owners v. FERC , 860 F.3d 837, 839 (6th Cir. 2017) ; Energy Primer 91. Customers pay a single rate for access to transmission lines throughout the MISO service territory (even if those lines are owned by multiple utilities), although the precise rate each customer pays is determined by where in MISO it's located. Midwest Indep. Transmission Sys. Operator, Inc. , 109 F.E.R.C. ¶ 61,168, pp. 61,810 & n.14, 61,826 (2004).

Around the same time as they joined MISO, the two companies (hereinafter "Louisville Gas") filed a merger application with the Commission. Based in part on the companies’ participation in MISO, the Commission concluded that the merger would not stifle competition. Merger Order at 62,214 ; see also Inquiry Concerning the Comm'n’s Merger Pol'y Under the Fed. Power Act, Order No. 592, 61 Fed. Reg. 68,595 (1996). It approved the application.

Then, some years ago, Louisville Gas asked the Commission for permission to withdraw from the network. The Commission approved the withdrawal, provided that the conditions of the merger remained satisfied. In other words, that Louisville Gas implement certain measures to provide its wholesale customers protections like those they enjoyed when Louisville Gas was part of MISO. Withdrawal Order at 61,924, 61,940.

To be specific, protection from pancaked rates. When Louisville Gas was a member of MISO, a transmission of energy from a within-MISO generator to a wholesale customer's facilities occurred entirely within the service territory on MISO lines, so there was only one charge. But once Louisville Gas withdrew, its wholesale customers could face two charges for that same transmission: one from MISO for the first leg of the trip (from the power plant to the MISO/Louisville Gas border), then another from Louisville Gas for the second leg (from the border to the final destination). This double-charging is the pancaked rate the Commission was worried about. Id. at 61,941. So the Commission required Louisville Gas to implement measures to absorb any additional cost caused by the two transmission legs (to "de-pancake" the rate). Id. at 61,940–41. Louisville Gas did so by contracting with its various wholesale customers. And the Commission ultimately approved this arrangement. See Rev. Rate Schedule FERC No. 402 ("Schedule"), App. 34–43.

D.

One of those wholesale customers (and the intervenor here) was the City Utility Commission of...