FERC Issues Proposed Policy Statement Clarifying the Use of Hold Harmless Commitments in Section 203 Applications

On January 22, 2015, the Federal Energy Regulatory Commission (“Commission”) issued a Proposed Policy Statement on Hold Harmless Commitments (“Policy Statement”), in which it proposed changes to the basis on which it will review transactions subject to Section 203 of the Federal Power Act (“FPA”).[1]  Specifically, the Policy Statement proposes clarifications to the rules regarding the identification of transaction-related costs and use of hold harmless commitments, which are often included in Section 203 applications for transactions involving traditional franchised public utilities as a means of demonstrating that a proposed transaction will not adversely affect ratepayers.  As part of a hold harmless commitment, an applicant typically commits not to seek recovery of transaction-related costs in Commission-jurisdictional rates unless the applicant can demonstrate that the costs are off-set by transaction-related savings.  The Commission must ensure that a proposed transaction does not have an adverse impact on jurisdictional rates and has traditionally allowed applicants to use a hold harmless commitment to satisfy this prong of the Commission’s analysis. 

I.                   Proposed Policy Statement

The Policy Statement proposes four specific clarifications regarding the use of hold harmless commitments.  First, the Commission proposes to clarify the scope and definition of “transaction-related costs” and provides a non-exhaustive list of transaction and post-transaction costs that must be covered by a hold harmless commitment.  Second, the Commission proposes to require applicants to provide a description of how transaction-related costs are defined, and to explain in detail how they will insulate ratepayers from transaction-related costs.  Third, the Commission proposes to no longer accept hold harmless commitments that are limited in duration.  Finally, the Commission proposes to clarify the circumstances under which a hold harmless commitment is not necessary to demonstrate that a proposed transaction will not adversely affect ratepayers.

Each of the four proposed clarifications is outlined in greater detail below.  The Commission notes that the proposed changes would apply on a prospective basis only, and would not impact existing hold harmless commitments or those currently pending before the Commission.  Interested parties have until March 30, 2015 to submit comments on the Policy Statement.

        1.      Clarification Regarding the Costs Subject to Hold Harmless Commitments

In part one of the Policy Statement, the Commission proposes to provide greater clarity as to what costs should be covered under hold harmless commitments, explaining that that although it has provided guidance regarding the costs that should be covered, it has never “defined those costs with much specificity.”[2]  To this end, the Commission identifies two general categories of transaction-related costs that should be covered by hold harmless commitments: (1) the costs incurred to explore, agree to and consummate a transaction, including a transaction that is pursued but never completed;[3] and (2) the internal and external integration and transition costs incurred following a merger.

In the case of the first category (transaction costs), the Commission proposes that the following transaction-related costs be covered by a hold harmless commitment:

  • costs of appraising and evaluating a transaction,
  • costs of structuring the transaction,
  • costs of preparing and reviewing the documents effectuating the transaction,
  • internal labor costs of employees and external labor costs of consultants and advisors to evaluate, negotiate and execute a transaction and to secure any required regulatory approvals,
  • costs of obtaining shareholder approval,
  •  professional services fees incurred in the transaction, and
  • installation and integration costs related to ensuring the operability of facilities subject to the transaction.[4]

In the case of the second category (merger costs), the Commission proposes that the following transitional costs incurred to integrate the merging companies be covered by a hold harmless commitment, regardless of the time period in which they occur:

  • engineering studies needed prior to and following the merger,
  •  severance payments,
  • operational integration costs,
  • accounting and systems integration costs,
  •  costs to terminate duplicative or superfluous contracts,
  • financing costs to refinance existing operations to achieve operational and financial synergies.[5]

The Commission explains that neither list is intended to be exhaustive, and proposes that it will consider on a case-by-case basis whether other costs should be subject to hold harmless commitments.  Additionally, the Commission proposes that applicants may demonstrate on a case-by-case basis why any of the identified costs should not be covered under a hold harmless commitment.  Finally, the Commission reiterates prior findings that acquisition premiums are not part of transaction-related costs and that such costs can only be recovered through a subsequent Section 205 filing.[6]

        2.      Establishing Controls and Procedures to Track and Record Costs

            In part two of the Policy Statement, the Commission proposes clarifications and additional guidance regarding an applicant’s obligations to establish internal controls and tracking mechanisms to ensure that transaction-related costs will not be recovered from ratepayers.[7]  Specifically, the Commission proposes that applicants offering hold harmless commitments must implement appropriate internal controls and procedures in order to ensure that transaction-related costs are properly identified, accounted for, and given proper rate treatment.  Additionally, the Commission proposes that applicants offering hold harmless commitments as part of a Section 203 application must also explain in detail how they “define, designate, accrue and allocate transaction-related costs”, and the “criteria used to determine which costs are transaction-related.”[8]  Similarly, applicants must specifically identify and describe all cost classifications and the processes used to manage transaction-related costs, included an explanation of: (1) the types of transaction-related costs that will be recorded on the applicants’ books; (2) how the costs are determined, and; (3) how the costs are classified as non-operating, transmission, distribution, production, or other.[9]  Finally, applicants must also describe their accounting procedures and practices used in conjunction with the above.

        3.      Prohibition of Time-Limited Hold-Harmless Provisions

Hold harmless commitments are typically limited in duration, and usually cover the five years following a transaction.  In part three of the Policy Statement, the Commission proposes to prohibit time-limited hold harmless provisions on the ground that such provisions “may not adequately protect ratepayers from transaction related costs.”[10]  In support, the Commission explains that it is concerned that limiting the applicability of hold harmless commitments to a finite time period may incentivize applicants to modify how they would otherwise account for recovery of certain transaction-related costs based on time period.  Additionally, the Commission suggests that time-limited hold harmless commitments may incentivize applicants to delay incurring transaction-related costs until after the hold harmless period expires, and may lead applicants to attempt to include such costs in future formula rate billings.  Based on the above, the Commission proposes that the “focus of a hold harmless commitment should be on whether a cost is transaction-related, and not on when the cost is incurred,”[11] and that, going forward, transaction-related costs subject to a hold harmless commitment cannot be recovered from ratepayers at any time, regardless of when such costs are incurred.

        4.      Clarification Regarding Situations in Which a Hold Harmless Committment is Not Required

In part four of the Policy Statement, the Commission proposes that applicants who undertake a transaction to fulfill “documented utility service needs” need not necessarily enter into hold harmless commitments in order to demonstrate that a transaction will not have an adverse effect on rates. The Commission explains that although such transactions may result in a rate increase for customers, the increase may not be adverse if the transaction is undertaken to meet a governmental requirement, such as satisfying state resource adequacy requirements, improving system reliability, or meeting other regulatory requirements.

The Commission proposes that an applicant seeking to demonstrate that such a transaction will not have an adverse effect on rates should provide evidence and documentation explaining that the transaction is (i) intended to serve existing customers or forecasted load within an existing service footprint, (ii) addresses a state regulatory requirement or order, (iii) addresses a transmission need established by a regional planning process or required by North American Electric Reliability Corporation standards, or (iv) addresses other state or federal regulatory requirements.

Finally, the Commission notes that applicants may rely on grounds not enumerated above to make a showing that a particular transaction does not have an adverse effect on rates.  The Commission advises, however, that it will carefully review any such showing before determining that a proposed transaction without any proposed ratepayer protection has no adverse effect on rates.

Interested parties have until March 30, 2015 to submit comments on the Policy Statement.

The full version of the Policy Statement can be found on the Commission’s Website at http://www.ferc.gov/whats-new/comm-meet/2015/012215/E-4.pdf


[1] Policy Statement on Hold Harmless Commitments, 150 FERC ¶ 61, 031 (Jan. 22, 2015).

[2] Id. at P 16.

[3] Id. at P 23.

[4] Id. at P 22.

[5] Id. at P 24.

[6] Id. at P 27.

[7] Id. at P 29.

[8] Id. at P 31.

[9] Id. at P 32.

[10] Id. at P 34.

[11] Id. at P 36.

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