Federal Energy Regulatory Commission v. Pennzoil Producing Company

• Decision Date: 16 January 1979
• Docket Number: No. 77-648,77-648
• Citation: 439 U.S. 508,99 S.Ct. 765,58 L.Ed.2d 773
• Parties: FEDERAL ENERGY REGULATORY COMMISSION, Petitioner, v. PENNZOIL PRODUCING COMPANY et al
• Court: U.S. Supreme Court

439 U.S. 508

99 S.Ct. 765

58 L.Ed.2d 773

FEDERAL ENERGY REGULATORY COMMISSION, Petitioner,

v PENNZOIL PRODUCING COMPANY et al.

No. 77-648.

Argued Nov. 28, 1978.

Decided Jan. 16, 1979.

Syllabus

Respondent pipeline company purchases for resale in the interstate market natural gas produced from a Louisiana field by respondent oil companies (Producers), whose prices are subject to regulation by petitioner Commission. Under their lease agreements with the field's owner, the Producers pay royalties pegged to the "market value" or "market price" of the gas. Following a dispute over the lessor's contention that those terms related to the unregulated price of natural gas in the intrastate market rather than to the lower interstate Commission-regulated rates, the parties ultimately agreed to increased royalty payments based on intrastate market values of natural gas. Alternatively the Producers would abandon delivery to the pipeline company of the royalty portion of the gas and deliver it instead as payment in kind to the lessor. The settlement agreement was to be binding only if the rate increase or the alternative abandonment was approved by the Commission, which the Producers then petitioned for special relief. The Commission denied price relief, holding that it would be contrary to its mandate to permit royalty costs to be passed on to the Producers' customers if the royalties were calculated on any basis other than the just and reasonable rate for the gas involved, and, relying in part on FPC v. Texaco, Inc., 417 U.S. 380, 94 S.Ct. 2315, 41 L.Ed.2d 141, the Commission concluded that it was "not free" to allow royalty costs based on the value of the gas in an unregulated market. The Commission also denied the alternative abandonment request. The Court of Appeals reversed and remanded, 5 Cir., 553 F.2d 485, concluding that the Commission had "authority to consider the reasonableness of any costs incurred," which "necessarily requires consideration of market price"; had failed to explain why royalty costs in an unregulated market differ from other production costs; and should determine the merits of the Producers' requests. The court, following its opinion in Southland Royalty Co. v. FPC, 5 Cir., 543 F.2d 1134, disagreed with the Commission on the abandonment issue. Held :

1. The Natural Gas Act does not deny the Commission authority to give special rate relief to individual producers where escalating royalty costs are a function of, or are otherwise based upon, an unregulated market price for the product whose sale in the interstate market is regulated by the Commission, and the Commission misconstrued Texaco in holding to the contrary. Pp. 514-517.

2. The Court of Appeals encroached upon the Commission's rate-making authority when it strongly suggested that the Commission is required to grant relief to the Producers as long as the increase in royalty costs is not imprudent and the relief when granted will merely sustain rather than increase the Producers' profits, since the Commission is not obliged automatically to relieve the bind on producers facing increased royalty costs based on unregulated prices. "All that is protected against, in a constitutional sense, is that the rates fixed by the Commission be higher than a confiscatory level." FPC v. Texaco, Inc., supra, 417 U.S. at 392, 94 S.Ct. at 2323. Pp. 517-519.

3. In view of the record, a remand to the Commission is proper so that in the first instance it may clearly enunciate whether and to what extent individual relief from area rates will be granted due to the increased royalty costs, and, if relief is to be denied, that it may adequately explain its judgment. Pp. 519-520.

4. On the abandonment issue, the Court of Appeals erred to the extent that it relied upon its judgment that was later reversed in California v. Southland Royalty Co., 436 U.S. 519, 98 S.Ct. 1955, 56 L.Ed.2d 505. Moreover, the questions of individual rate relief and abandonment are not unrelated and may be considered by the Commission on remand. Pp. 520-521.

553 F.2d 485, vacated and remanded.

Stephen R. Barnett, Dept. of Justice, Washington, D.C., for petitioner.

Jeron L. Stevens, Houston, Tex., for respondent Pennzoil Producing Co.

Thomas G. Johnson, Houston, Tex., for respondent Shell Oil Co.

Mr. Justice WHITE delivered the opinion of the Court.

The major issue in this case involves the authority of the Federal Energy Regulatory Commission, petitioner herein, to grant or refuse to grant individual producers special relief from applicable area and nationwide rates set by the Commission for the sale of natural gas. The Court of Appeals for the Fifth Circuit set aside what it considered to have been the decision of the Commission that under the Natural Gas Act, 52 Stat. 821, as amended, 15 U.S.C. § 717 et seq., it did not have authority to grant exceptional relief which would allow producers to pass through to interstate customers increased royalty costs based upon the intrastate price of natural gas. A secondary issue involves a question of abandonment under § 7(b) of the Act, 15 U.S.C. § 717f(b), and an application of our decision last Term in California v. Southland Royalty Co., 436 U.S. 519, 98 S.Ct. 1955, 56 L.Ed.2d 505 (1978), rev'g Southland Royalty Co. v. FPC, 543 F.2d 1134 (CA5 1976).

I

Respondent United Gas Pipe Line Co. (United) purchases for resale in the interstate market natural gas produced by respondents Pennzoil Oil Producing Co. and Shell Oil Co. (Producers) from the Gibson field in southern Louisiana. Producers' prices are subject to Commission regulation and may not exceed the just and reasonable rates established by the Commission in its relevant area and nationwide rate proceedings.¹ Under their lease agreements with the owner of the Gibson field, Producers pay royalties pegged to the "market value" or "market price" of the gas. After commencement of state-court litigation involving the lessor's contention that these references are to the unregulated price of natural gas in the intrastate market,² rather than to the applicable interstate rates set by the Commission,³ the lessor and Producers reached a settlement agreement whereby royalty payments would be pegged to the higher of 78¢ per 1,000 cubic feet of gas (increasing 1.5¢ per year beginning in 1976) or 150% of the highest applicable interstate rate. In the alternative, Producers would abandon delivery to United of the royalty portion of the gas and deliver it instead as payment in kind to the lessor. However, this settlement would be binding only if the Commission allowed Producers to charge United a rate higher than applicable area and nationwide rates by the amount of the resulting increase in royalty costs, or in the alternative, permitted the desired abandonment.⁴

The Commission referred Producers' subsequent petition for special relief, supported by intervenor United, to an Administrative Law Judge who, after a hearing, denied the petition. Under his review of applicable cases, special relief from the relevant ceiling rates, while not absolutely prohibited, would be available only if Producers demonstrated "that [their] overall costs incurred in the operation of the particular well or group of wells are higher than the applicable Commission-established area or nationwide ceiling rates, or, even more stringently, that [their] out-of-pocket expenses will exceed revenues." App. 171. The administrative law judge concluded that neither Producer had satisfied its burden of proof in this respect. Nor had it made a case for abandonment of the royalty portion of the gas.

The Commission affirmed but took a somewhat different approach.⁵ Acknowledging for the purposes of this case that it had no jurisdiction over royalty rates,⁶ the Commission nevertheless noted its authority to regulate the prices charged by Producers for gas sold in interstate commerce and asserted that it would be "inconsistent" with and "contrary" to its mandate to permit royalty costs to be passed on to Producers' customers if royalties were calculated on any basis other than the just and reasonable rate for the gas involved. Relying in part on our decision in FPC v. Texaco, Inc., 417 U.S. 380, 94 S.Ct. 2315, 41 L.Ed.2d 141 (1974), the Commission concluded that it was "not free" to allow royalty costs based on the value of the gas in an unregulated market. 55 F.P.C. 400, 404-405 (1976).⁷ In an opinion and order denying rehearing, the Commission said that it "does not have the power to base a part of the regulated price on the unregulated market value of intrastate gas." ⁸ Price relief was thus denied without accepting or rejecting the findings of the administrative law judge with respect to the relationship between the Producers' costs and revenues. The Commission also denied the alternative request for abandonment of the royalty portion of the gas.

The Court of Appeals rejected the Commission's determination that it was without authority to allow producers of natural gas to increase their rates above applicable area and nationwide rates in order "to reflect the increased cost of 'market value' or 'market price' royalty obligations." Pennzoil Producing Co. v. FPC, 553 F.2d 485, 487 (CA5 1977). Asserting that the Commission "has taken a cost plus profit approach to gas rate regulation," the Court of Appeals believed that in seeking to pass through their increased royalty expense, Producers "do not seek to increase their profits but merely to maintain those margins already determined by the Commission to be just and reasonable." Id., at 488. The Commission had "authority to consider the reasonableness of any costs incurred," but doing so "necessarily requires consideration of market price," and the Commission had failed to explain why royalty costs in an unregulated market are different from any other cost of production. Ibid. The court concluded that these considerations and our decision in Mobil Oil Corp. v. FPC, 417 U.S. 283, ...