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Divided appeals court upholds FERC decision on transmission incentive for SDG&E

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Divided appeals court upholds FERC decision on transmission incentive for SDG&E

A decision by the Federal Energy Regulatory Commission to disallow a utility's recovery of transmission investment costs it incurred in the past is consistent with the agency's rule addressing incentive rate treatment and the goal underlying that rule, according to a federal appeals court.

In upholding FERC's finding that an "abandonment incentive" the agency granted to San Diego Gas & Electric Co., or SDG&E, in 2016 would apply only prospectively, the U.S. Court of Appeals for the District of Columbia Circuit agreed that allowing recovery of previously incurred costs would be "contrary to the general policy rationale that incentives are designed to encourage future transmission investments."

"The logic of the incentive rate treatment at issue here ... supports the commission treating it as unwarranted for SDG&E's pre-order costs," the court's opinion, written by Circuit Judge Cornelia Pillard, said.

However, one member of the three-judge panel considering the case — San Diego Gas & Electric v. FERC; No. 16-1433 — dissented from that opinion. In a statement, Senior Circuit Judge A. Raymond Randolph said the fallacy in FERC's and the majority's position is that the agency essentially prompted the desired actions when it announced the establishment of the incentive in 2006, "well before San Diego began incurring costs for its transmission project."

The project for which SDG&E sought the abandonment incentive — known as the South Orange County Reliability Enhancement, or SOCRE — involves the utility rebuilding and upgrading its existing substation in San Juan Capistrano and constructing a transmission line to connect to its Talega substation at a cost of approximately $350 million to $400 million.

In an incentive request (FERC docket EL15-103) tendered to FERC in 2015, the Sempra Energy subsidiary explained that the project had run up against certain roadblocks, including a three-year delay in state regulators' processing of a needed permit, and that the company needed certainty with respect to abandoned plant recovery in order for work on the project to move ahead in a timely manner.

But several California cities subsequently protested the abandonment incentive request, arguing that 100% recovery should be allowed only for those costs incurred on or after the date FERC authorizes the incentive.

FERC agreed, noting in its 2016 order that SDG&E acknowledged it had spent more than $31 million in development costs over a four-year period "without assurance of cost recovery." The commission also explained that its 2006 final rule, Order 679, was "clear that incentives were designed to encourage transmission investment that may not otherwise occur."

SDG&E subsequently challenged that decision to the D.C. Circuit, asserting that it should be eligible to recover 100% of all prudently incurred development costs if SOCRE is abandoned for reasons outside its control because Order 679 itself essentially made a binding offer of incentive rate treatment.

The court's majority backed FERC's decision, finding that the commission's approach "comports with both the Federal Power Act and the incentive rule."

"The commission in the preamble to the incentive rule elaborated that it would not authorize incentives that 'simply increas[e] rates in a manner that has no correlation to encouraging new investment," Pillard wrote. "Instead, incentives must be 'rationally tailored' to the relevant investment and will not function as a 'bonus for good behavior.'"

The court also rejected SDG&E's assertion that FERC's decision was arbitrary and capricious because it has granted other utilities recovery of preorder abandoned plant costs.

"In those early ... cases, the declaratory orders made no express determination regarding effective dates, and no party objected to the utility's recovery for the period at issue," Pillard explained. "We have previously held that, '[i]n the absence of protests,' the commission's decision to approve rate increases does not amount to 'policy or precedent.'"

The majority also dismissed SDG&E's "binding offer" argument, noting that the preamble to Order 679 specifically states that it "does not grant incentive-based rate treatment or authorize any entity to recover incentives in its rates."

But Randolph in his dissent likened the end result of FERC's order to a theoretical scenario under which the agency at the beginning of a year announces that employees who provide exceptional service will be eligible for a cash award at years end but later refuses to pay out any awards because the employees who rendered exceptional service already have performed.

"There is no difference between this hypothetical and FERC's decision," Randolph said. "The prompting effect is generated by the announcement of the incentive even if the ultimate award is conditioned on some later showing and paid after some or all of the performance," the judge added.

Circuit Judge Judith Rogers joined Pillard in the ruling.