On April 14, FERC revisited and revised the Supply Margin Assessment (“SMA”) test but declined to adopt final standards to govern applications for market-based rate authority under the Federal Power Act.  The interim revision seeks to correct deficiencies in the SMA now and portends a more expansive remake in the contemporaneously announced “generic” rulemaking on market-based rates.  The Commission noted that generation market power is only one prong of a four-pronged analysis to assess qualification for market-based sales authority.  The rulemaking will also examine the other three prongs, (1) the question of transmission market power, (2) the ability to erect barriers to entry, and (3) issues of affiliate abuse and/or reciprocal dealing, deciding whether to continue and/or revise their use.

The SMA test has been widely criticized and applied only selectively.  Strictly applied, the SMA would have disqualified most integrated electric utilities from having market-based sales authority in their historic footprint.  The test was first announced in 2001 to review the market-based authority for three large utilities, AEP, Entergy, and Southern Company.  Each failed the standard and asked for rehearing, asserting that the SMA was illogical in its failure to recognize that the market share attributed to the utilities was based on generation ownership that is committed in long term service obligations to native load.  The utilities asserted that the viability of the competitive wholesale market should be focused on uncommitted generation capacity.  Merchant generators responded that any assertion that all utility owned capacity was not competitive in the competitive wholesale market vastly underestimated the competitive power of traditional integrated utilities.  Apparently recognizing that the criticisms had validity, FERC stayed its initial intent to terminate the market-based rate authority of AEP, Entergy, and Southern Company, and announced that it would reconsider the policy in its rehearing decision.

On rehearing of these decisions and also in response to a conference on the subject initiated in 2002, FERC announced a new dual screen analysis as an interim measure.  The new standard responds to the comments of both the integrated utilities and merchant generators.  FERC states that its objective is to recognize the native load commitments of integrated utilities but also assess the availability of utility owned generation to compete in the market for wholesale sales on a negotiated price basis.  The two screens are a Pivotal Supplier Analysis (“PSA”), based on the peak demand of the control area in which the applicant is located and a Market Share Analysis (“MSA”) based on seasonal demand.  The screens are structured to give recognition to native load obligations.  The PSA is calculated on the peak day of the year, but the generation owned by a supplier is adjusted to back out the average daily peak load of that supplier in the peak month.  The MSA is calculated with an adjustment to back out the minimum peak load demand in a given season.  If the applicant is a transmission provider, it must provide simultaneous transmission capability studies applied to both its own control area and first tier interconnected control areas.  The Commission expressly declines to use the Total Transmission Capacity posted on the relevant OASIS to measure what energy can be imported into the control area.  The Commission also expressly ruled that an applicant for market-based sales authority will not be exempted from application of the screens based on its location within an RTO.

These screens will be used to establish presumptions about market power.  An applicant that passes both screens is presumed to lack market power.  An applicant that fails either screen is presumed to possess market power.  The Commission will consider evidence to counter these presumptions.  An intervenor may challenge, through the presentation of evidence, the presumption that passing both tests indicates a lack of market power.  FERC suggests what evidence will be relevant but does not limit what it will consider.  Applicants that fail either test must rebut the presumption of market power by (1) presenting an analysis based on the Delivered Price Test first announced in the Commission’s Merger Policy Statement, (2) filing a mitigation proposal that will eliminate the ability to exercise power, or (3) using the default cost based rates suggested by the Commission or filing a specific cost-based rate with appropriate cost support.

The Commission’s intent to examine whether to retain or modify its historic four-pronged test is very open ended.  The Commission will investigate whether it should retain the indicative screens for generation market power.  The Commission’s statement that it will re-examine all four prongs is quite circumspect as to the review that it will undertake with respect to the question of market power through transmission.  The Commission reversed on rehearing its previous ruling requiring that Entergy and Southern Company hire independent third parties to operate their OASIS systems.  Instead, agreeing that such issues are more related to transmission market power than generation market power, FERC announced that it “will consider the issue of whether there is a need to mitigate access to, and information on, transmission facilities in other proceedings, as may be appropriate.”  No detail on such “other proceedings” is provided.  The Commission did state that that it would consider whether different approaches to affiliate transactions and whether new Commission regulations promulgated expressly for market-based rate filings, including applications related to ancillary services, should be developed.

These developments may well portend a change in the fundamental strategy FERC has been using to promote competitive wholesale electric markets.  Order 2000 and the Standard Market Design Rulemaking were a virtual directive to integrated utilities to surrender control of transmission if they wanted to retain market-based rate authority.  The new direction is a detailed re-examination of whether large utilities should retain market-based rate authority predicated on a comprehensive review of all potentially relevant factors and a possible reformulation of the factors relevant to that analysis.  The Commission may be questioning whether integrated utilities operating outside organized markets should have market-based rate authority.  In a similar vein, the Commission may also be reviewing whether merchant entities should retain market-based price authority without a more rigorous analysis of their potential to exercise market power.

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Energy Currents is an online publication of the law firm of Vinson & Elkins L.L.P.  It is intended to afford notice to our clients and friends of certain developments. It is not intended, nor should it be used, as a substitute for specific legal advice regarding particular factual situations.