El Paso Natural Gas Co. v. Federal Power Com'n, 18022

• Decision Date: 30 September 1960
• Docket Number: 18120,No. 18022,18124,18125.,18022
• Parties: EL PASO NATURAL GAS COMPANY, Petitioner, v. FEDERAL POWER COMMISSION, Respondent. SOUTHERN CALIFORNIA GAS COMPANY, and Southern Counties Gas Company of California, Petitioners, v. FEDERAL POWER COMMISSION, Respondent. PACIFIC GAS AND ELECTRIC COMPANY, Petitioner, v. FEDERAL POWER COMMISSION, Respondent. PEOPLE of the State OF CALIFORNIA and Public Utilities Commission of the State of California, Petitioners, v. FEDERAL POWER COMMISSION, Respondent.
• Court: U.S. Court of Appeals — Fifth Circuit

281 F.2d 567 (1960)

EL PASO NATURAL GAS COMPANY, Petitioner, v. FEDERAL POWER COMMISSION, Respondent.

SOUTHERN CALIFORNIA GAS COMPANY, and Southern Counties Gas Company of California, Petitioners, v. FEDERAL POWER COMMISSION, Respondent.

PACIFIC GAS AND ELECTRIC COMPANY, Petitioner, v. FEDERAL POWER COMMISSION, Respondent.

PEOPLE of the State OF CALIFORNIA and Public Utilities Commission of the State of California, Petitioners, v. FEDERAL POWER COMMISSION, Respondent.

Nos. 18022, 18120, 18124, 18125.

United States Court of Appeals Fifth Circuit.

August 2, 1960.

Rehearing Denied September 30, 1960.

William M. Bennett, Roderick B. Cassidy, Harold J. McCarthy, J. Calvin Simpson, San Francisco, Cal., for people of Cal. and Public Utilities Commission of Cal.

Leo E. Forquer, Atty., Willard W. Gatchell, Gen. Counsel, Howard E. Wahrenbrock, Solicitor, F. P. C., Washington, D. C., for respondent.

Gregory A. Harrison, San Francisco, Cal., Allen R. Grambling, El Paso, Tex., Malcolm T. Dungan, San Francisco, Cal., George D. Horning, Jr., Washington, D. C., Brobeck, Phleger & Harrison, San Francisco, Cal., Hardie, Grambling, Sims & Galatzan, El Paso, Tex., Hogan & Hartson, Washington, D. C., for El Paso Natural Gas Co.

H. F. Lippitt, II, T. J. Reynolds, H. P. Letton, Jr., L. T. Rice, Milford Springer, Robert M. Olson, Jr., Los Angeles, Cal., for Southern Cal. Gas Co. and Southern Counties Gas Co. of Cal.

Frederick T. Searls, Malcolm H. Furbush, Frederick W. Mielke, Jr., Malcolm

A. MacKillop, San Francisco, Cal., for Pacific Gas & Elec. Co.

Before TUTTLE, CAMERON and WISDOM, Circuit Judges.

Rehearing Denied in No. 18125. September 30, 1960.

TUTTLE, Circuit Judge.

These petitions deal with the proper computation of the rate to be charged to the ultimate consumers of gas, principally residents of the State of California, for the period April 15, 1955-December 31, 1957, for gas produced and transmitted and sold by El Paso Natural Gas Company, an integrated Natural Gas Company.

Without expressly identifying the proponent of each separate contention, the principal questions here raised are the treatment to be accorded by the Federal Power Commission in a Section 4 proceeding¹ to certain Federal income tax benefits. The company contends that once the Commission has arrived at a rate that represents the ordinary revenue requirements necessary to reimburse it for all of its operating costs and a reasonable return on its investment, it must fix a rate that will yield this amount and must also permit the company to retain for the benefit of its equity owners the tax savings it achieves from the statutory depletion allowance, from the current deduction of intangible drilling expenses and from use of an optional rapid method of depreciation. The California Commission contends that the parties acquiesced in a 6% return on the entire investment, including the production or well-mouth properties, and that all tax savings must be given effect in arriving at the actual cost of operation; thus all amounts in excess of the sum necessary to return actual costs including a 6% return on the investment must be refunded. Other parties take several intermediate positions. The legal conclusions which we reach will resolve these several contentions without the necessity of separately discussing them all.

The Commission's order gave effect to the tax savings differing in important respects from the contentions of all of the parties. It held that the 6% rate of return was, in light of acquiescence of all parties, a proper rate of return on the investment before giving consideration to the special circumstances surrounding that part of the investment that represents the ownership of the gas in place and the production facilities. It figured this investment at $74,436,273. It also recognized that special incentives are necessary for the producing end of the integrated business by way of higher return to encourage exploration and drilling of new wells. It equated the special tax savings from depletion and deduction of intangible drilling expense, provided for by Congress as tax benefits in the oil and gas industry, to the ordinary 6% return plus the needed incentive, and allowed the amount represented by these two tax savings to be retained by the company but to be treated as if actually paid in federal taxes. This amount, which represents 8.61% of the $74,436,273 well-mouth investment, was allowed as the return on that investment in lieu of the 6% rate, thus making an overall rate of return on the total investment of $549,563,775 for rate making purposes of 6.35%.

The Commission's order also permitted El Paso to take advantage of the rapid depreciation provisions of the 1954 Internal Revenue Code² by permitting it to treat its taxes for rate making purposes as though depreciation had been figured on the "straight line" method, but it imposed the requirement that the savings in taxes for the test year be credited to a special reserve account so as to be available for payment of the higher taxes later when the higher depreciation figure could no longer be deducted.

El Paso contends that the requirement that these savings be placed in reserve was invalid and it claimed the privilege of retaining them for its general corporate purposes without restriction. Intervenors contended that only the actual taxes paid under the rapid depreciation schedule should be allowed as operating expenses, and that the company should not be permitted to retain these savings without their being given effect in the rate making process.

All parties present their cases here on the theory that we have an uncomplicated legal question as to how to treat the tax savings benefits which Congress clearly sought to afford either this particular industry or to businesses generally (as to the rapid depreciation option) in the making of just and reasonable rates for the sale of natural gas in interstate commerce.³

We have heretofore in Bel Oil Corp. v. Federal Power Commission, 5 Cir., 255 F.2d 548, 553, and in Gulf Oil Corp. v. Federal Power Commission, 5 Cir., 255 F.2d 556, 557, stated that the problem of "the regulation of the prices at which thousands of `natural gas companies' may sell to the pipe line companies is a difficult one at its best," and that the standard of what is a just and reasonable rate "is concededly a difficult standard to specify especially in light of the fact that producers are in reality selling gas that they own and are not, in the traditional sense, primarily furnishing a service to the public." Yet that is precisely the problem with which the Commission had to cope in this case. So far as relates to that element of cost of service that represents the price at which the gas is to be delivered to the transmission lines of El Paso after production is completed the so-called well-mouth investment of El Paso may be viewed as if it were the property of an independent regulated producer. We dealt with such producers in the Bel Oil and associated cases, 255 F.2d 548, et seq.

El Paso contends, the Commission recognizes, and the State of California and other intervenors do not dispute, that in ordinary circumstances the producer is entitled to a rate that permits him to recover his costs and a reasonable return on his investment, which return must include an increment of incentive for exploration and development and compensation for the wasting asset. Here, however, the parties differ widely on what, on the record before us, El Paso is entitled to as representing this increment. El Paso says it is entitled to 6% on the $74,436,273 well-mouth investment, plus $7,704,477, representing savings in taxes for which it should not have to account in computing cost of service. The Commission says it is entitled only to the $7,704,477 tax savings (of which $1,297,717 is to be placed in a reserve as above discussed), representing 8.61% of the well-mouth investment as compared with the 6% rate allowed on the remaining investment.⁴ The State of California contends that only the 6% rate of return on the entire investment, including well-mouth, is warranted because it says, "It was stipulated by all parties to the proceeding below, including El Paso, that an allowance for return should be included in the cost of service to provide El Paso with a 6 per cent rate of return on its entire rate base." Other intervenors make this same contention.

While it may be said that all parties participated in the hearing below on the assumption that an overall rate of return of 6% would be applicable, we do not think this forecloses El Paso's right to urge the necessity of fixing a higher rate on the well-mouth investment. This is so because all parties were on notice that El Paso was proceeding on a theory that would have entitled it to realize in addition to the 6% return the tax savings of $7,704,477 by including this item in its cost of service, although it did not actually pay this sum. Thus El Paso was claiming the right to retain the additional sum and we do not think El Paso is bound by its claim for a 6% rate overall if we find the theory by which it sought to obtain its incentive and depletion was the wrong approach.⁵

We thus come to the question: What effect must the Commission give to the tax incentives provided by Congress for the gas industry, as relates to the percentage depletion and intangible drilling expense items and to taxpayers generally, as relates to the rapid depreciation item in arriving at a just and reasonable rate?

We think that full effect must be given to the Congressional intent to make the several tax savings available to this taxpayer either because it is in the natural gas business or because it is acquiring new equipment subject to the depreciation options of the 1954 Act.

We think, however, that this does not mean that these tax benefits are to be translated into additional profits for the regulated company over and above a reasonable...