Wabash Valley Power Ass'n, Inc. v. Rural Electrification Admin.

• Decision Date: 16 March 1993
• Docket Number: No. 91-3673,91-3673
• Citation: 988 F.2d 1480
• Parties: Util. L. Rep. P 13,930 WABASH VALLEY POWER ASSOCIATION, INC., an Indiana not-for-profit corporation, Plaintiff-Appellee, v. RURAL ELECTRIFICATION ADMINISTRATION, Defendant-Appellant.
• Court: U.S. Court of Appeals — Seventh Circuit

Page 1480

988 F.2d 1480

Util. L. Rep. P 13,930

WABASH VALLEY POWER ASSOCIATION, INC., an Indiana not-for-profit corporation, Plaintiff-Appellee, v. RURAL ELECTRIFICATION ADMINISTRATION, Defendant-Appellant.

No. 91-3673.

United States Court of Appeals Seventh Circuit.

Argued Sept. 10, 1992.

Decided March 16, 1993.

James T. Malysiak, Lee A. Freeman, Jr. (argued), John F. Kinney, Freeman, Freeman & Salzman, Chicago, IL; Warren D. Krebs, Larry J. Wallace, Don F. Morton, Parr, Richey, Obremskey & Morton; and James P. Moloy, and David Kleiman, Dann, Pecar, Newman, Talesnick & Kleiman, Indianapolis, IN, for plaintiff-appellee.

Gerald A. Coraz, Jeffrey L. Hunter, Asst. U.S. Attys., Office of the U.S. Atty., Indianapolis, IN; Peter P. Maier, Robert S. Greenspan, Dept. of Justice, Civ. Div., Appellate Section; N. Beth Emery, William D. DeGrandis, Paul, Hastings, Janofsky & Walker; Frank Clover, Michael W. Kelly, Gen. Counsel, Dept. of Agriculture, Office of the Gen. Counsel; and Thomas M. Bondy (argued), Dept. of Justice, Civ. Div., Appellate Section, Washington, DC, for defendant-appellant.

Wallace F. Tillman, Jonathan H. Glazier; N. Beth Emery, Bruce Ryan, and Mary T. Boyle, Paul, Hastings, Janofsky & Walker, Washington, DC; Frank J. Kelley, Atty. Gen., Don L. Keskey, Asst. Atty. Gen., Patricia S. Barone, Gay S. Hardy, Office of the Atty. Gen., State of Mich., Lansing, MI; James L. Turner, Robert K. Johnson, Robert M. Glennon, Office of Utility Consumer Counselor, Indianapolis, IN; William P. Rodgers, Jr. and Charles D. Gray, Nat. Ass'n of Regulatory Utility Com'rs, Washington, DC, for amici curiae.

Before FLAUM and RIPPLE, Circuit Judges, and SHADUR, Senior District Judge. ^*

FLAUM, Circuit Judge.

The history of this appeal from a grant of summary judgment against the Rural Electrification Administration ("REA") is long and unhappy. In 1978 the REA approved $360 million in loan guarantees to the power supply cooperative Wabash Valley Power Association ("Wabash Valley") to invest in a 17-percent share of the Marble Hill nuclear power facility. The Public Service Company of Indiana owned the other 83-percent share. Subsequently, the REA committed to additional guarantees of $588 million to Wabash Valley's Marble Hill venture, for a total of $948 million in loan guarantees. To collateralize these guarantees, the REA required Wabash Valley to enter into forty-year all requirements contracts (officially labelled wholesale power contracts) with each of its distribution cooperative members. According to the terms of these contracts, the REA agreed to be bound as third-party beneficiaries to rates "subject to the approval of the Public Service Commission of Indiana."

Because of sizable cost overruns, the Public Service Company canceled the Marble Hill nuclear power facility in January of 1984. That April, Wabash Valley requested a rate increase from the Indiana Utility Regulatory Commission ("IURC") ¹ in order to repay loan monies expended on Marble Hill that the REA had guaranteed. Prior to any resolution of the rate increase by the IURC, Wabash Valley defaulted on its REA loans and filed for reorganization under Chapter 11; and the REA was left holding the multi-million-dollar bag. At the time of filing, Wabash Valley had outstanding debts to the REA totalling $671 million. Subsequently, Wabash Valley's petition to the IURC for a rate hike to cover its obligations to the REA was denied. Relying on its decision in Citizens Action Coalition v. Northern Indiana Public Service Co., 485 N.E.2d 610 (Ind.1985), cert. denied, 476 U.S. 1137, 106 S.Ct. 2239, 90 L.Ed.2d 687 (1986), the Indiana Supreme Court reiterated that the "used or useful" rule applies to customer-owned utilities and upheld the IURC's denial of Wabash Valley's request for a rate hike. National Rural Utilities Cooperative Finance Corp. v. Public Service Commission of Indiana, 528 N.E.2d 95 (Ind.App.1988), aff'd, 552 N.E.2d 23 (Ind.1990).

Having failed to recoup in state court the monies extended to Wabash Valley, the REA asserted jurisdiction over ratemaking by means of a preemption letter to Wabash Valley and the IURC. The REA's letter instructed Wabash Valley to raise its rates immediately and detailed a rate schedule. We found the REA's preemption letter to be invalid because it did not comply with the notice and comment requirements of the Administrative Procedure Act. Wabash Valley Power Association v. Rural Electrification Administration, 903 F.2d 445 (7th Cir.1990) ("Wabash I "). At the federal court level, the REA also raised the possibility of implied preemption for the first time. We held that principles of preclusion prevented the REA from asserting an implied preemption argument at that late stage of the litigation. Id. at 455.

While that case was still pending before this court, the REA published a notice of proposed rulemaking. 55 Fed.Reg. 12194-12202 (April 2, 1990). After the notice and comment period, the REA promulgated two new preemption regulations. 55 Fed.Reg. 38638-38654 (September 19, 1990). The first rule, concerning preemption for inadequate rates, reads in pertinent part:

(a) State regulatory authority jurisdiction over a power supply borrower's rates shall be preempted by the RE Act if the Administrator shall have determined that the borrower's rates approved by the state regulatory authority are, after taking into account the borrower's costs and expenses, inadequate to produce revenues sufficient to permit the borrower to make required payments on its secured loans and the borrower has failed to make required payments on its secured loans.

7 C.F.R. § 1717.305 (1991). The second rule, concerning borrowers in bankruptcy, provides:

State Regulatory Authority jurisdiction over an REA borrower's rates shall be pre-empted by the RE Act and REA shall have exclusive jurisdiction over the borrower's rates:

(a) On October 19, 1990, with respect to any borrower by or against whom a case under the Bankruptcy Code of 1978, as amended, was commenced prior to and remains outstanding on October 19, 1990; and

(b) With respect to all other borrowers, upon the filing of a petition by or against the borrower commencing a case under the Bankruptcy Code of 1978, as amended.

7 C.F.R. § 1717.354 (1991). Stripped of their semantic trappings, both the preemption regulations and the bankruptcy regulations are rules designed to shift the risk of default on REA loans from the REA to cooperative members. After the REA promulgated these rules, Wabash Valley brought suit in federal court for a declaratory judgment to prevent their enforcement. The district court held the rules to be invalid. We affirm.

I.

As a federal credit program, the REA promotes and facilitates investment in electricity (and telephones, to a lesser extent) for rural areas in order to ensure that these regions receive power at reasonable prices. See Congressional Budget Office, New Approaches to the Budgetary Treatment of Federal Credit Assistance (1984); M. Weidenbaum & R. Harnish, Government Credit Subsidies for Energy Development (1976). It has traditionally performed this function by reducing the cost of funding to cooperatives, as well as other nonprofit organizations, through the provision of insured loans and loan guarantees. Until recently, the Rural Electric and Telephone Revolving Fund ("RETRF"), rather than the REA itself, advanced monies for the loans and guarantees and has borne any losses incurred under the rural electrification program. ² The RETRF, in turn, has financed its lending from repayments of principal and interest and sales of certificates of beneficial ownership to the Federal Financing Bank ("FFB"). ³

When offered at the government's cost of borrowing, loans made by the REA subsidize rural power. The interest rate the government has to pay for money is only the return on a risk-free investment. Without federal assistance, REA borrowers would have to pay a higher rate of interest to obtain insured or guaranteed loans because of the non-zero risk involved. The difference between the government's rate of interest and the rate the borrower would have otherwise had to pay is the subsidy; the cost to the government is the risk of default. In private credit markets, interest rates and guarantee fees incorporate a risk premium. ⁴ This premium both induces lenders to bear the risk of default and assures that, on average, payments by borrowers are sufficient to cover default losses. In government lending, default risk exists in at least equal measure. The cost of this risk, which is borne by taxpayers without direct compensation, is the fee that would be required to induce a lender to bear these risks. Consequently, when the guarantee program of the Rural Electrification Act, 7 U.S.C. § 901 et seq. (1980 & Supp.1992) ("RE Act"), requires all REA borrowers to pay a rate of interest only marginally higher than the government's cost of borrowing (.125% higher), the rate paid by REA borrowers is substantially lower than on long-term borrowing by companies seeking credit in private markets.

Both of the current loan mechanisms of the REA reflect these subsidies. REA-insured loans contain a hidden interest subsidy representing the difference between the interest rate the borrower would obtain without REA assistance and the interest rate the government must pay for money. Moreover, the insured loans contain an explicit subsidy if the government is making insured loans at interest rates below its cost of borrowing. REA-guaranteed loans also provide both a subsidy to borrowers in the form of interest rate savings and a cost to the government in the form of risk. ⁵ When the chance of default by the firm is high, a guarantee can have substantial value on a large loan. ⁶

Furthermore, all REA loans contain a more latent subsidy which is reflected in the amount of leverage that the REA allows its borrowers. ⁷ Loans to cooperatives represent the entire investment in...