Energy Markets Face Expanded Enforcement

The range of entities potentially subject to FERC enforcement actions has swelled. For the electric power industry, these include: traditional electric utilities; organizations operating transmission systems; merchant power producers; power marketers; electric transmission customers; financial institutions and power exchanges; price reporting entities; any entity involved in jurisdictional power sales; and all users, owners and operators of the bulk-power system.

For the natural gas industry, the list includes: interstate pipelines and gas storage companies; intrastate pipelines; local gas utilities regulated by public service commissions; municipal gas distribution companies; producers and marketers of natural gas; customers transporting gas on pipeline systems; price reporting companies and price publishers; financial institutions and gas exchanges; purchasers of natural gas, including industrial, commercial or non-profit buyers; any entity involved in jurisdictional sales.

FERC's Enforcement Procedures

FERC enforcement actions have a variety of sources. Its Enforcement Hot Line can be called by any person who believes a regulation, order, tariff or law is being violated. Its Audit Division regularly reviews specific compliance issues, supported by FERC's broad authority to compel companies to provide data. FERC's staff also surveys commodity and transportation markets for anomalies. Finally, FERC also expects companies to self-report violations.

If FERC concludes that there may be a compliance problem, its investigation can take two routes. Typically, FERC will issue a non-public order commencing an investigation and authorizing an attorney within the Office of Enforcement to inquire into the potential violations and issue subpoenas, if necessary. On the basis of this non-public investigation, FERC will negotiate with the company. If they reach an agreement regarding the alleged compliance violation, the Office of Enforcement and the company will submit a Stipulation and Consent Agreement, which is approved by FERC in a published order.

If negotiations do not result in an agreement resolving the investigation, or if FERC decides to go directly to litigation, FERC follows the process laid out in its Statement of Administrative Policy Regarding the Process for Assessing Civil Penalties (Dec. 2006). Except for certain violations involving de novo review by a U.S. District Court, FERC will issue a notice of proposed violation, and the company may submit an answer and have an opportunity for a hearing. The hearing might, depending on the facts, be a 'paper hearing' decided directly by the Commission, or it might involve the full panoply of hearing procedures, including live testimony, an initial decision by an administrative law judge followed by a decision from the Commission itself, an opportunity to seek rehearing, and subsequently the right to petition for review by a U.S. Circuit Court of Appeals.

An Ounce of Prevention Remains the Best Strategy

Traditional gas and electric utilities recognize the need for compliance plans to prevent FERC violations. However, companies that have not been heavily FERC-regulated now have increased incentives to take steps to avoid FERC violations through compliance programs and related steps. For example, in Bangor Gas Co. LLC , 118 FERC ' 61,186 (March 7, 2007), a small state-regulated local utility acting as a gas pipeline customer agreed to a consent order with a $1 million civil penalty, because its employees responsible for gas scheduling were unfamiliar with the requirements of FERC's 'shipper-must-have-title' rule.

FERC has emphasized its goal of fostering within the entities it regulates a proactive 'culture of compliance,' including self-reporting of violations to and cooperation with FERC. See FERC's Statement of Administrative Policy Regarding the Process of Assessing Civil Penalties 117 FERC ' 61,317 (Dec. 21, 2006); Enforcement of Statutes, Orders, Rules, and Regulations 113 FERC ' 61,068 (Oct. 20, 2005). FERC policy reflects other enforcement agencies' policies, including those of the SEC, Commodity Futures Trading Commission, and DOJ as well as the federal Sentencing Guidelines.

The mitigating factors important to FERC will be familiar to the white-collar and enforcement bar: 1) a documented, formal program for internal compliance, supervised by an independent officer or other high-ranking official with independent access to the chief executive officer and/or the board of directors, and with sufficient resources dedicated to the compliance program; 2) full support for the compliance program by senior management; 3) frequent compliance reviews, revisions and thorough training programs; and 4) an ongoing process for auditing compliance. While some companies may therefore have compliance programs and personnel in place, many businesses subject to EPACT jurisdiction may find the subject matter of FERC regulations to be more challenging.

Each company active in the energy markets must undertake its own self-review to determine which (if any) of its activities may be subject to FERC enforcement. Companies should prepare their own checklist of potential substantive (and sometimes arcane) FERC regulations that may apply to their actions. Considerable variations in potential exposure may exist, depending on the nature of the company's involvement in the energy sales and transmission markets.

Companies should also be prepared to engage in internal investigations when internal evidence or reports of violations come to the attention of management, or if the company becomes aware that FERC is pursuing an investigation. The purposes of internal investigations for potential FERC regulatory violations, as with other criminal and regulatory-enforcement investigations, are to allow the company to determine whether violations have occurred; to end the violations, prevent further violations and remedy any systemic failures; to assess the penalty and other potential exposures; and to determine whether self-disclosure makes sense. If a company is considering a future course of action that may or may not run afoul of FERC regulations, it may seek a ruling in advance under FERC's 'no-action letter process.' See, e.g., Informal Staff Advice on Reglulatory Requirements, 117 FERC ' 61,069 (Oct. 19, 2006).

Unanswered Questions

If a company is the subject of a FERC investigation, the preferred outcome in most cases is a negotiated consent agreement. Companies may find themselves at a disadvantage, however, because FERC has the leverage of its authority to levy a $1 million penalty per violation in an industry in which 'violations' may pile up very quickly for ongoing sales and transportation transactions. On Nov. 14, FERC's Staff issued a Report on Enforcement in Dkt. No. AD07-13 providing a public account of FERC's policies and enforcement activities following EPACT, but, in the absence of any track record on litigated penalties, assessing settlement exposure is difficult. But one point remains clear. To minimize the likelihood of receiving the sharp end of FERC's enhanced penalty authority, companies active in energy markets that have not historically considered themselves to be subject to FERC enforcement authority should take steps to ensure compliance and prepare for any potential FERC investigation.

Christopher J. Barr ([email protected]) is a partner in the Energy Group at the Washington, DC, office of Post & Schell, P.C.

Following the Enron bankruptcy and West Coast energy crisis of 2001-2002, Congress gave the Federal Energy Regulatory Commission (FERC) more powerful enforcement tools to prevent unlawful and manipulative activities in energy markets. The Energy Policy Act of 2005 (EPACT) gave FERC the authority to assess penalties under the Natural Gas Act and Federal Power Act of up to $ 1 million per day per violation. See 15 U.S.C.A. ' 717t-1; 16 U.S.C.A. ' 825o-1. FERC has expanded its Office of Enforcement, called for heightened industry compliance programs and self-disclosure of misconduct, and is newly focused on enforcement rather than on traditional ratemaking. Two years into the EPACT era, FERC has used its newly acquired authority vigorously:

• In July 2007, FERC issued proposed penalties and disgorgement remedies in two different proceedings (Amaranth and Energy Transfer Partners) totaling $458 million, for alleged market manipulation and other violations.
• FERC's action in Amaranth included proposed penalties against two individual energy traders totaling $32 million.
• Since January 2007, FERC has approved 12 consent agreements to terminate enforcement investigations, which collectively required payments of more than $40 million in penalties and disgorgements.

Major questions remain about FERC's enforcement policies, including: the scope of FERC's jurisdiction; the scope of the penalties to be associated with particular violations; and whether respondents facing penalty awards are entitled to a de novo hearing in district court. FERC has also not indicated whether it will exercise its long-standing authority to refer willful violations of its major statutes to the Department of Justice (DOJ) for criminal prosecution, particularly given that the potential monetary penalties and terms of imprisonment were significantly increased under EPACT. However, FERC's actions under EPACT suggest some benchmarks for companies active in the energy industry seeking to avoid or minimize liability under this new regime.

The Far Reach of EPACT Jurisdiction

A wide range of businesses active in energy markets now may be exposed to FERC enforcement actions. Historically, FERC enforcement focused on the traditionally regulated companies ' chiefly interstate natural gas pipelines and electric utilities ' and compliance with energy transmission and sales regulations and tariffs. In the past, FERC did not focus on the actions of the utilities' customers. EPACT, however, prohibits any manipulative or deceptive device by any person in connection with jurisdictional sales of gas or electricity, and enhances FERC's authority over customers in some circumstances.

The range of entities potentially subject to FERC enforcement actions has swelled. For the electric power industry, these include: traditional electric utilities; organizations operating transmission systems; merchant power producers; power marketers; electric transmission customers; financial institutions and power exchanges; price reporting entities; any entity involved in jurisdictional power sales; and all users, owners and operators of the bulk-power system.

For the natural gas industry, the list includes: interstate pipelines and gas storage companies; intrastate pipelines; local gas utilities regulated by public service commissions; municipal gas distribution companies; producers and marketers of natural gas; customers transporting gas on pipeline systems; price reporting companies and price publishers; financial institutions and gas exchanges; purchasers of natural gas, including industrial, commercial or non-profit buyers; any entity involved in jurisdictional sales.

FERC's Enforcement Procedures

FERC enforcement actions have a variety of sources. Its Enforcement Hot Line can be called by any person who believes a regulation, order, tariff or law is being violated. Its Audit Division regularly reviews specific compliance issues, supported by FERC's broad authority to compel companies to provide data. FERC's staff also surveys commodity and transportation markets for anomalies. Finally, FERC also expects companies to self-report violations.

If FERC concludes that there may be a compliance problem, its investigation can take two routes. Typically, FERC will issue a non-public order commencing an investigation and authorizing an attorney within the Office of Enforcement to inquire into the potential violations and issue subpoenas, if necessary. On the basis of this non-public investigation, FERC will negotiate with the company. If they reach an agreement regarding the alleged compliance violation, the Office of Enforcement and the company will submit a Stipulation and Consent Agreement, which is approved by FERC in a published order.

If negotiations do not result in an agreement resolving the investigation, or if FERC decides to go directly to litigation, FERC follows the process laid out in its Statement of Administrative Policy Regarding the Process for Assessing Civil Penalties (Dec. 2006). Except for certain violations involving de novo review by a U.S. District Court, FERC will issue a notice of proposed violation, and the company may submit an answer and have an opportunity for a hearing. The hearing might, depending on the facts, be a 'paper hearing' decided directly by the Commission, or it might involve the full panoply of hearing procedures, including live testimony, an initial decision by an administrative law judge followed by a decision from the Commission itself, an opportunity to seek rehearing, and subsequently the right to petition for review by a U.S. Circuit Court of Appeals.

An Ounce of Prevention Remains the Best Strategy

Traditional gas and electric utilities recognize the need for compliance plans to prevent FERC violations. However, companies that have not been heavily FERC-regulated now have increased incentives to take steps to avoid FERC violations through compliance programs and related steps. For example, in Bangor Gas Co. LLC , 118 FERC ' 61,186 (March 7, 2007), a small state-regulated local utility acting as a gas pipeline customer agreed to a consent order with a $1 million civil penalty, because its employees responsible for gas scheduling were unfamiliar with the requirements of FERC's 'shipper-must-have-title' rule.

FERC has emphasized its goal of fostering within the entities it regulates a proactive 'culture of compliance,' including self-reporting of violations to and cooperation with FERC. See FERC's Statement of Administrative Policy Regarding the Process of Assessing Civil Penalties 117 FERC ' 61,317 (Dec. 21, 2006); Enforcement of Statutes, Orders, Rules, and Regulations 113 FERC ' 61,068 (Oct. 20, 2005). FERC policy reflects other enforcement agencies' policies, including those of the SEC, Commodity Futures Trading Commission, and DOJ as well as the federal Sentencing Guidelines.

The mitigating factors important to FERC will be familiar to the white-collar and enforcement bar: 1) a documented, formal program for internal compliance, supervised by an independent officer or other high-ranking official with independent access to the chief executive officer and/or the board of directors, and with sufficient resources dedicated to the compliance program; 2) full support for the compliance program by senior management; 3) frequent compliance reviews, revisions and thorough training programs; and 4) an ongoing process for auditing compliance. While some companies may therefore have compliance programs and personnel in place, many businesses subject to EPACT jurisdiction may find the subject matter of FERC regulations to be more challenging.

Each company active in the energy markets must undertake its own self-review to determine which (if any) of its activities may be subject to FERC enforcement. Companies should prepare their own checklist of potential substantive (and sometimes arcane) FERC regulations that may apply to their actions. Considerable variations in potential exposure may exist, depending on the nature of the company's involvement in the energy sales and transmission markets.

Companies should also be prepared to engage in internal investigations when internal evidence or reports of violations come to the attention of management, or if the company becomes aware that FERC is pursuing an investigation. The purposes of internal investigations for potential FERC regulatory violations, as with other criminal and regulatory-enforcement investigations, are to allow the company to determine whether violations have occurred; to end the violations, prevent further violations and remedy any systemic failures; to assess the penalty and other potential exposures; and to determine whether self-disclosure makes sense. If a company is considering a future course of action that may or may not run afoul of FERC regulations, it may seek a ruling in advance under FERC's 'no-action letter process.' See, e.g., Informal Staff Advice on Reglulatory Requirements, 117 FERC ' 61,069 (Oct. 19, 2006).

Unanswered Questions

If a company is the subject of a FERC investigation, the preferred outcome in most cases is a negotiated consent agreement. Companies may find themselves at a disadvantage, however, because FERC has the leverage of its authority to levy a $1 million penalty per violation in an industry in which 'violations' may pile up very quickly for ongoing sales and transportation transactions. On Nov. 14, FERC's Staff issued a Report on Enforcement in Dkt. No. AD07-13 providing a public account of FERC's policies and enforcement activities following EPACT, but, in the absence of any track record on litigated penalties, assessing settlement exposure is difficult. But one point remains clear. To minimize the likelihood of receiving the sharp end of FERC's enhanced penalty authority, companies active in energy markets that have not historically considered themselves to be subject to FERC enforcement authority should take steps to ensure compliance and prepare for any potential FERC investigation.

Christopher J. Barr ([email protected]) is a partner in the Energy Group at the Washington, DC, office of Post & Schell, P.C.